Hands down, the best barometer of your current financial health is to determine and monitor your net worth on a monthly basis.
Your net worth is defined as the difference of everything you own or your total assets and everything you owe or your liabilities. In business, this is called equity which represents your true ownership. If you were to liquidate everything you own such as jewelry, real estate, cars, or a 401(k) and other investment balances (ignoring taxes and penalties), pay off all of your debts, and pile up all of your excess cash on the kitchen table, this would represent your total net worth.
Businesses monitor their assets, liabilities, and increases in equity on a monthly basis in order to assess their financial health. By monitoring their revenues and expenses, management can identify areas of improvement and determine any programs that are profitable and that should be expanded. Just like a business constantly monitors their own profitability, you should view your own personal finances as a business and continually monitor for ways to accomplish your financial goals.
After all, by increasing your net worth, you will also be increasing your financial freedom and independence over time which allows you to regain some of the time spent working.
Here are 7 Valuable Ways to Increase Your Net Worth:
-
Track your net worth on a monthly basis
Just like businesses assess their balance sheet and continually monitor their profits to assess issues, monitoring your net worth on a monthly basis is a great first step to assess your own financial situation and journey of increasing your net worth. Ideally, month after month, your net worth will steadily rise as you spend less than you make each month and any investments increase in value. As you repay any outstanding debt over the period, your personal net worth will steadily rise.
Unfortunately, most families rarely compile a budget and track their expenses – much less monitor their overall net worth. Many people do not know the first place to start tracking their net worth. However, thanks to technology, there are many apps you can download that will automatically link to your various bank, credit card, and investment accounts that help you safely monitor the account balances and activity. These apps also have invaluable tools that provide you with your monthly cash flow as well as determine your net worth balance.
Two apps that I personally use are Mint and Personal Capital with each offering variations of calculators that will help you monitor and track your personal net worth. Additionally, you should consider an Excel spreadsheet that shows your assets and liabilities broken out by account and showing any increases and decreases from the prior month by line item.
Monthly swings in your net worth are primarily driven by two things: your monthly margin used to save, invest, or pay down debt as well as any market fluctuations from the previous month.
Your personal margin
What is margin? In business, margin is the difference between your monthly income and your monthly expenses. As an example, if you make $5,000 per month and spend $4,000, you are left with a margin of $1,000 or a savings rate of 20%. Obviously, your monthly margin will vary depending on both the volatility in your income if you are on commission and will also be influenced by expenses in a particular month. However, determining a typical savings rate after necessary living expenses will help you forecast how much you will be able to put back from each of your paychecks to use on activities that have a positive impact on your financial position.
While implementing a budget and tracking your monthly expenses, you should see what your savings rate looks like when you are on a tight budget and when you are having a month where you do not follow a strict budget. For instance, if you have relatively high fixed expenses such as a car payment, insurance, mortgage or rent payment, your monthly margin will probably not vary much. However, if you typically have a greater proportion of monthly expenses that can be reduced easily such as restaurant dining, expensive hobbies, or recurring expenses from entertainment and subscription services, you can easily increase your monthly margin. For each area you cut back, you will see extra money drop to the bottom line of your monthly net income statement which will increase your net worth.
Market fluctuations
If you have a 401(k), IRA, or other investment account, another contributor to fluctuations as you monitor your net worth will be market fluctuations and your portfolio performance.
In any given month, this could be positive or negative. However, based on historic market returns of 10%, over the long-term you should reasonably expect your investments to increase a little less than 1% per month on average. While this may be the case over 10, 15, and 20+ year time horizons, the reality is that you may have a month where your investments are up or down 5% or 10%. Depending on the size of your nest egg and the amount you contribute to these accounts, these balances could be a big driver of your overall net worth calculation.
Identify expenses you could eliminate
While simply tracking your net worth will not directly increase your income or effect market performance, assessing your income and expenses may help you identify areas you could cut back or eliminate. By eliminating the excess you have identified in your budget, you will increase your monthly margin and net worth.
For instance, if you have multiple subscriptions to services you do not use regularly, this may be an opportunity to stop paying for gym memberships or online streaming services like Netflix, HBO, Showtime, or others that you do not use enough to justify the costs. Saving those expenses will automatically fall to the bottom line of your monthly margin and can be used to invest and increase your worth each month. In the end, you can always re-subscribe if you have cut back too much. However, you will more than likely find you do not value these services enough to justify paying for them. Additionally, the new found free time can be used for more productive activities.
Tracking and monitoring your net worth on a monthly basis is the first step to increasing your net worth. As you see progress over consecutive months and years, you will see your hard work pay off through a continual rise in your personal net worth.
2. Cut back on monthly expenses
Overall, the easiest way to begin increasing your net worth is by cutting back on your monthly expenses. After you have begun the process of tracking your expenses, you should have a pretty good idea of where your money is going on a monthly basis. Once you know this information, one of the best methods I have found to reduce expenses is by stacking up your expenses largest to smallest and then determining if there is a way to cut back.
Review recurring expenses
As mentioned above, an easy first step to saving more money each month is by cutting out recurring subscriptions that you do not use very often. While this is a good first step, eliminating $30-$50 per month will not make a dramatic impact in terms of your overall net worth.
Reduce your largest expenses
Instead, look at your largest expense and see if there is a way to reduce these costs. Because these are your biggest line items and expenses, if you can just cut them back 10%, these savings will move the needle in a much larger proportion compared to cutting back on a bunch of smaller expenses.
For instance, if you are spending $1,000 per month in rent, perhaps you could cut your costs by half by getting a roommate to share costs. If you have developed a relationship with your landlord, perhaps he or she would agree to reduce your rent by $100 or more if you agree to help them maintain the property by mowing the lawn or through other valuable services.
If you own your own house, perhaps you could “house hack” by renting out a space through Airbnb or through subleasing rooms to other tenants and drastically lower your own monthly housing costs. In addition to the actual house payments, you could pass off a portion of your cable bill, electricity, water, and other utilities which would further reduce your own out of pocket expenses.
Save money by planning out your meals
Another huge expense many people do not consider is their monthly food budget. More than likely, you are spending way more than necessary on food – especially if you dine out frequently. If you enjoy eating out constantly, you are probably paying at least 2 to 3 times more than what it would cost you to simply cook at home, and if you enjoy alcohol with your meal, the costs can escalate dramatically. While occasionally enjoying the ambiance of a nice restaurant will not break the bank, spending $15 to $20 per day on a single meal can quickly add up by the end of the month.
Instead, you should strategically plan your dining out and primarily cook at home if you are looking to cut back on your dining expenses. By cooking at home, you could easily prepare delicious meals for under $15 per day rather than $15 per meal. When you want to dine out, consider restaurants that offer happy hours and be mindful not to overorder just because of a “special” pricing. If you are dating or married, you could even consider sharing meals since portion sizes in most restaurants are enough for at least two meals. These strategies will drastically cut back your out of pocket dining expenses and help you save money.
If you are a habitual coffee drinker, you could also consider brewing coffee at home and taking it in a thermos instead of going through the Starbucks drive-thru and paying $5 each day for coffee. Just bringing your own coffee from home to the office could easily save you nearly $100 per month if you frequent the coffee shop daily.
Clearly, shopping at the grocery store and cutting back on eating out is one of the best ways to cut back your monthly food expenses. While shopping at the store is much less expensive than eating out, it is still easy to get carried away with your spending at the store.
Make a grocery shopping list and stick to it
The best way to control your grocery expenses is by making a list of what you need beforehand and only buying the items on the list. If you get to the store and find yourself continually throwing additional items into your basket that you did not have on your original list, chances are you are probably impulse buying food you do not really need and probably will not be able to consume before it spoils.
Instead, refrain from adding random things to your basket, and when you get home, see if the snacks or food you wanted is still necessary. Since most people grocery shop every week, you can always add it to your list for the following week.
Many times, I have found that I end up buying way more food than I can consume before it goes bad. Vegetables, fruit, bread, and food groups that require refrigeration are especially vulnerable to spoilage if you are unable to consume everything. For this reason, I typically buy frozen mixed vegetables and only purchase enough perishables that I can easily consume before my next grocery trip. After all, it would be much cheaper for me go back to the grocery store a day or two earlier rather than throwing out a ton of food because I was traveling or too busy to cook during a given week.
Cutting back on your monthly expenses is one of the easiest first steps to increasing your monthly margin and net worth. However, reducing your spending habits will take a conscious effort but can be accomplished by trimming the most expensive items in your budget, eliminating subscription services and other expenses you rarely use, and being mindful of your monthly food budget.
3. Increase your income
On the other hand of the equation, increasing your income is another way to quickly increase your net worth.
As long as you do not also increase your lifestyle spending by maintaining your current expenses, any excess money you can earn will fall straight into your bank account. The best way to increase your income is probably at your current place of employment whether taking on additional hours and overtime or simply asking for a pay raise.
Taking a secondary, part-time job related to your primary field of employment will probably be the most lucrative for your time since you have experience and could command a higher rate. Other non-skilled jobs such as ride-share driving with Uber or Lyft, food-delivery, or food service often pay fairly well and allow you to work on the weekends or after finishing your duties at your 9-5 job.
Start a side hustle
Other than increasing your pay or hours at your current job or taking another part-time job, you could also consider starting your own side hustle to bring in extra income. Many individuals looking to simply make a few hundred extra dollars each month end up finding their passion and a full-time career in their side hustle, so starting a side business could be a great passion project to pursue.
Perhaps you enjoy photography and own a professional-grade camera. You could advertise your services at a very low price compared to the market or even for free as you build your reputation. The hardest part about starting a side business is the initial plunge and getting your first few clients. Locating your first paying customers can be tough. However, you should be able to work through your current network of friends and family to begin building your own portfolio of showcase projects as advertisement for your work. You could then start a website or Facebook and Instagram page to showcase your work and eventually build your book of business through word of mouth and positive reviews.
If you have a hobby or skill that you have become proficient, you could offer to teach beginner lessons. For instance, if you are musically inclined and know how to play piano or guitar, you could easily charge $20-$50 per hour on lessons to beginners. Once you have one or two students and do a good job, your business will spread organically through word of mouth.
Even if photography is not your thing or you are not musically-proficient enough to teach, this same tactic could be expanded to include countless other hobbies or interests. For any side hustle, try to find a way to monetize your passions, skills, or talents in areas that you are proficient.
Sell unused or unwanted items
Selling any unused or unwanted items is another great way to convert unused items to cash and clean out your home in the process.
You could consider getting rid of unwanted items around the house by hosting a yard sale or by selling them on Letgo, Craigslist, or Ebay. If you have a closet-full of nice, unused clothing, you could easily sell them on these sites or take them to stores such as Plato’s Closet and get cash back in your pocket.
If you have larger items that are hurting your net worth such as a vehicle that you are looking to downsize, you could always sell the vehicle as is on one of the aforementioned sites or through a specialized website or app such as Cargurus.
Eliminating big ticket, costly items and downsizing is one of the best ways to get the ball rolling to increasing your net worth in addition to increasing your income through side hustles.
4. Eliminate high-interest debt
Another major turning point in building wealth will occur when you no longer have high-interest consumer loans. After all, building wealth can be virtually impossible if you are paying 10%+ in interest on your debt balances.
Eliminate non-mortgage debt
While debt such as a mortgage allows you to have 100% control of an asset that generally appreciates over time with little of your own money down, there is virtually no way to build wealth if you have substantial credit card or other balances paying 20%+ in interest.
Paying off these high-interest debt balances that are causing you to bleed your income in interest charges and late fees is a key strategy to help you substantially increase your net worth. In fact, paying off these high-interest balances will probably be the most efficient use of your available capital since obtaining 20%+ gains in the market through investing is virtually impossible over a longer stretch of time.
By eliminating high-interest payments and debt from your net worth equation, you are guaranteeing yourself a rate of return on your money equal to the interest rate on the loan. You will also free up excess cash flow that can be invested and grow.
Some money gurus believe you should pay off all of your debt before even considering contributions to a retirement account or other investment account. While these philosophies are typically based on the psychological and behavioral aspects of personal finance, you will have to decide for yourself if you want to follow the “debt-free” before investing approach or if you want to begin your investing journey once your high-yield (say 5%+ interest-bearing) debt is paid off.
Personally, my philosophy is to never buy something I could not pay for in cash which helps me make financial decisions on a cash basis. However, I do not have an issue with very small amounts of debt if the money could be put to better and more efficient uses, earn a higher return over the long-run, and help increase my overall net worth.
The main issue with car loans and other consumer debt is the fact that most people take on debt because they are trying to buy things that they simply cannot comfortably afford. Rather than using debt as leverage to generate greater returns or buy appreciating assets, they use debt to supplement their lack of income or wealth instead of being patient and saving up for the purchase.
Even legendary investor Warren Buffett who is worth over $80 billion is known to carry a mortgage. In fact, on April 6, 1971, Buffett bought a vacation home with a 30-year mortgage and subsequently refinanced multiple times to keep the mortgage on the property because he understood that while the money was an extremely small portion of his net worth, the best use of his capital would be to invest and earn a greater return than the interest rate on the loan and equity value in the appreciation of the home.
Deciding whether you want to pay off all debt or just debt with higher interest than you could get investing is certainly a personal choice. For me, paying off high-interest debt (10%+) is a no brainer since that’s a risk-free, guaranteed return on your money which will have a substantial impact on your net worth. However, at an interest rate that is less than 5%, the decision becomes more personal preference and dependent upon your personal willingness to accept more risk.
If the interest rate on your debt is around 5% for example, a hybrid approach by contributing enough to get any “free money” such as an employer match and paring down other investing to pay off your debt may be a good, neutral strategy to employ.
By either approach, paying down and eventually eliminating debt will be a key strategy to increasing your net worth since this frees up capital that can be invested to buy appreciating assets to increase your net worth.
5. Contribute to a 401(k) or Individual Retirement Account
After you’ve paid off high-interest debt, you may be ready to begin the process of investing.
Investing is one of the best ways to increase your net worth over a longer period of time thanks to the compounding of money through dividends and capital appreciation in your stocks and funds.
Contributing to a 401(k), individual retirement account (IRA), or other tax-advantaged account is one of the best places to begin your investing journey due to the beneficial tax treatment associated with these accounts. While tax laws currently treat long-term capital gains and dividends at a lower tax rate than ordinary income earned from your typical job, 401(k)s and retirement accounts go a step beyond for even more favorable tax treatment which we will discuss below.
Types of retirement accounts
There are two main types of retirement accounts – Traditional or pre-tax accounts and Roth or after-tax accounts. Each comes with their own specific tax advantages.
Traditional 401(k) or IRA
With a Traditional 401(k) or IRA, contributions are tax-deductible in the years contributions are made. Because your investments are sheltered in the account, the balance will grow tax-deferred which means you will not be taxed on the dividends that are paid or any of the capital gains. Instead, withdrawals in retirement are taxed at ordinary income rates in the year the money is distributed.
In theory, your tax rate in retirement or after age 59 1/2 will hopefully be lower than in your working years when you are earning a higher amount and the contributions are made. If this is true, you were able to realize a tax deduction in the years when your effective tax rate was higher and take distributions and pay taxes at lower rates in retirement. Also, because Traditional contributions lower the overall taxes owed, you will have more money to spend or save elsewhere come tax filing. However, since it is virtually impossible to predict future tax laws, determining actual rates in the future to plan can be difficult.
Roth 401(k) or IRA
If you thought the Traditional 401(k) or Traditional IRA was a huge advantage, wait until you hear about the Roth option!
Unlike Traditional contributions, you are not allowed to deduct contributions to Roth accounts on your current year income, and there are some limitations or impediments for higher-income earners. However, the invested amount will not grow tax-deferred, but instead, the entire balance is completely tax-free.
Because of the power of compounding, the vast majority of the balance will be capital gains. If you had elected the Traditional 401(k) or IRA, you would owe taxes on this amount, effectively reducing the real value of the balance. Instead, with the Roth account, you have complete access to the entire balance without paying the tax man, and there are no minimum distributions after age 70 ½ like there are for Traditional accounts.
Let’s look at an example to explain the difference:
A 25-year old is just now financially able to begin their investing journey, and he or she is trying to decide whether they should invest in a Traditional or Roth IRA. They have $6,000 per year to invest which is the limit for IRA contributions in 2020, and they plan to retire at age 65.
If this young adult invests in a standard S&P 500 index fund that mimics the market’s historic rate of return of 10% over the 40-year period, they will have a balance of nearly $2.7 million when they turn 65 by investing $6,000 per year. Of the $2.7 million, only $240,000 is from contributions while the remaining $2.4 million is due to compounded returns and dividends.
If they had chosen the Traditional IRA, they would have gotten the tax benefit in the years they made contributions; however, they would owe taxes at their ordinary income rate on the $2.4 million gain as the money is withdrawn in retirement.
Instead, if they had elected the Roth IRA, they would not have gotten the tax deduction when the contributions were made. However, they would have the full $2.7 million completely unencumbered by taxes. This tax-free treatment makes the Roth IRA or 401(k) a powerful option.
While the best account can be debated, generally speaking, individuals in lower tax brackets or people who believe tax rates will be higher in the future should elect the Roth IRA or Roth 401(k) option if available. For higher-income earners in the top tax-brackets, further analysis should be performed to determine the best account since taking a tax deduction at a 30%+ effective tax rate would result in substantial tax savings in the current years which could be used to invest. Additionally, high earners will also need to research or talk with a financial professional to explore the backdoor option if their incomes are beyond the current limits to contribute to a Roth directly.
Many of these ultra-high-income earners will probably also see their effective tax rates drop in retirement as they are no longer generating substantial income from their employment and can rely on their portfolios for income.
Prioritize the company 401(k) match
Whether you open a Roth or Traditional 401(k), beginning in an employer-sponsored 401(k) plan may be the best place to start putting money back for retirement – especially if the company offers a match. Many employers offer a 401(k) match on contributions as a recruiting tool to attract talent as well as a method of incentivizing their employees to save for retirement by compensating them beyond just their base pay with this benefit.
Some employers will match dollar for dollar or a percentage – say 50% up a certain amount of base pay. Essentially, if you contribute to your employer-sponsored account, not only do you receive the benefits of investing and watching your money compound in the market as we’ve previously discussed, but you also get this “free money” that the company is providing. Any and all of the gains and dividends associated with this additional investment will further increase your net worth. By investing in a 401(k) with a match, you will see your net worth drastically snowball as your accounts compound over the years.
Because of the power of compounding, tax-advantaged status of retirement accounts, and other employer benefits associated with saving for retirement, opening a 401(k) and IRA can be one of the best tools to substantially grow your net worth over the coming years.
6. Contribute and invest in other qualified tax-advantaged accounts (HSA, 529 Plan)
While investing in tax-advantaged retirement accounts is a wonderful way to build wealth, because there are restrictions on the balances that may come with taxes and penalties if withdrawn prior to retirement starting at age 59 ½, you should also consider investing in other tax-advantaged accounts geared toward specific needs along your journey.
Similar to retirement accounts, there are other accounts that offer unique tax benefits that allow you to save and pay for expenses you will almost certainly incur over the course of your life – from healthcare to college. Instead of waiting for these expenses to occur, you can get ahead of the game by saving and investing to plan for the eventuality of healthcare costs and college.
Consider a HSA Account
If you go to the doctor infrequently and have the means to save and essentially self-insure for doctors’ visits that may cost a few hundred dollars out of pocket, you should consider a high-deductible insurance plan.
With these plans, the monthly premiums are drastically lower than your typical Health Maintenance Organization or Preferred Provider Organization. Lowering your monthly premiums will save you tons of cash over the course of the year if you rarely need medical care or have costly chronic illnesses where you will reach your out of pocket maximum rather quickly.
With these high-deductible plans, you are also allowed to open and fund a Healthcare Savings Account or HSA Account which is a special savings vehicle that can be used for qualified medical uses including visits to the doctor and prescription medicines.
In 2020, singles are allowed to contribute up to $3,550, and families are permitted to contribute up to $7,100 into these accounts. As an added benefit, contributions are tax-deductible just like Traditional 401(k) or IRA which means the government is essentially subsidizing your contributions.
As an added benefit, the contributions can be invested in a wide variety of investment options. These investments will grow tax-deferred, and if withdrawals are made for qualified medical uses, the complete amount of both contribution and growth will be completely tax-free.
Therefore, these accounts get favorable treatment in 3 different ways: the initial tax deduction for contributions, the tax deferrals as the money is invested and grows, and tax-free withdrawals for qualified medical uses. This makes the HSA an incredibly tax-efficient account to further save for future medical expenses and ultimately build your net worth.
Invest in a 529 Plan if further education is on the horizon
If you have children or have future plans that include a family or even your own college endeavors, you should consider opening a 529 College Savings Plan or Coverdell Education Savings Account.
While contributions to these accounts are not tax-deductible, the contributions can be invested and grow tax-free if used for qualified education expenses which range from tuition and fees to books, room and board. By contributing to these accounts early on, you have the ability to substantially reduce your out of pocket cash flow during the college years as the gains from the investments are used to pay for college rather than your own cash flow.
Both HSA Accounts for medical purposes and 529 Plans and Coverdell ESAs offer great tax-efficient ways to save and invest and lower your out of pocket expenses associated with inevitable healthcare costs and college expenses.
7. Invest in a brokerage account
Opening a brokerage account and steadily investing in low-cost index funds and mutual funds is another great way to gain diversification and exposure to the returns the stock market may generate.
The benefits of ordinary brokerage accounts
By investing in these funds, you will be able to produce passive income and returns that will cause your net worth to steadily increase over the long-term as the dividends and gains continue to compound.
While you will be required to pay taxes on any dividends and capital gains, the current tax code treats long-term capital gains and dividends at a much more favorable 15% rate compared to ordinary income tax rates.
While individual brokerage accounts do not gain the same tax-deferred treatment as Traditional 401(k)s, and Traditional IRAs or the tax-free treatment that Roth 401(k)s, Roth IRAs, HSAs, and 529 Plans garner, individual brokerage accounts allow you to have liquidity in your investments.
Compared to IRAs which have an age requirement before withdrawals can be made without taxes and penalties and the stipulations associated with HSAs and college savings plans, having a balance of investments that can be accessed without restrictions is a valuable position to hold in your portfolio.
By having these liquid investments, you may lose out a small amount of your return to taxes. However, you can easily shift the funds to pay off any debt you have or to invest in other ventures which may generate a higher return.
Because of these characteristics, you should consider having a balance of investments outside of your cash balance, retirement accounts, and any other restricted investments you may have.
To recap, here are the 7 Best Ways to Increase Your Net Worth
- Get started by tracking your net worth on a monthly basis
- Cut back on your monthly expenses
- Increase your income through overtime, extra jobs and side hustles, and selling unused items
- Payoff debt with high-interest rates (10%+)
- Invest for Retirement in tax-advantaged accounts such as 401(k)s and IRAs
- Contribute to other tax-advantaged accounts as available as needed such as HSAs or 529 Plans
- Open a brokerage account and invest in stocks or funds to watch your portfolio and net worth grow unrestricted
Following a financial plan by diligently tracking your progress, cutting back on expenses, generating excess income, and investing for the future are key themes to steadily increase your net worth over the course of your life. Following these 7 simple steps will lead you well on the way to achieving financial freedom and independence.