Net worth is a term commonly used when speaking about businesses and those who are wealthy. Many websites, like ours, even exist solely to publish and discuss the various net worths of people ranging from tycoons to celebrities.
For many, however, there is a common misconception that a high net worth means that somebody has plenty of cash in the bank. This misconception is based on the liquidity of the person’s assets and how quickly they can access the funds that make up their net worth.
There are two unique kinds of net worth: the regular kind that is most commonly spoken about and liquid net worth. The latter is rarely mentioned and is, in many cases, more important in terms of knowing a person or entity’s immediate financial position.
Below, we will unpack this misconception to see the difference between these two types of net worth. Looking briefly at how to increase or decrease each one, we will also uncover why knowing the difference can help you better understand your own financial stability.
Net Worth vs. Liquid Net Worth
Net worth is the total amount of assets held minus the liabilities owed. Liquid net worth, however, calculates only the total value of assets that can quickly be converted into cash (or are liquid) minus any liabilities.
Therefore, the calculations to determine the two sums are similar, with only the type of assets changing. Net Worth = Assets – Liabilities, while Liquid Net Worth = Liquid Assets – Liabilities.
Because of this, there are commonly significant differences between an individual’s or company’s stated net worth and their liquid net worth. Contrary to common beliefs, the net worth is usually much higher and doesn’t relate to how many usable funds are available.
Liquid vs. Illiquid Assets
For most, terms like liquid and illiquid assets are not something they think about regularly. However, understanding the difference can help individuals better understand their finances and help them set more precise and attainable financial goals.
Liquid capital or assets refer to anything that can quickly and easily be converted to cash. Another attribute of liquid assets is that these can be sold for a predetermined amount subject to minimal variation upon sale and will commonly generate the amount of cash estimated beforehand.
Many items fall into this category, including cash holdings (whether in a bank or on hand), cash equivalents, government bonds, stocks, marketable securities, tax refunds, accrued income, promissory notes, and certificates of deposit. Each of these assets can be quickly disposed of.
On the other hand, illiquid assets cannot quickly be sold or are subject to significant variances in estimated price when sold. These variances are a factor when the sale needs to be negotiated or is subject to additional fees that will be deducted from the total revenue generated by the sale.
Among the most common types of illiquid assets are real estate holdings, cars, private company interests, specific stocks and bonds, antiques, and collectibles such as works of art or bespoke jewelry.
Liabilities
When it comes to liabilities, the simple way to understand if something is a liability is to determine whether money is still owed on it. For instance, a loan or credit card are liabilities, or outstanding money, owed to a creditor.
On the other side of liabilities are items such as houses or other real estate assets. These are commonly seen as both assets and liabilities, as the property can be sold in exchange for revenue but may still have an outstanding liability amount, such as a mortgage.
In such cases, the outstanding liability must be deducted from the asset value to determine the actual asset. Should the negotiated sale price be lower than the outstanding amount, the property will only be considered a liability.
Is Net Worth Liquid?
Because of the above factors, the answer to the question of whether or not net worth is liquid depends entirely on whether liquid or illiquid assets have been used to determine the final net worth amount.
As we stated earlier, the most common type of net worth people talk about is total net worth (calculated using illiquid and liquid assets). This can often lead to an untruthful sense of financial security that will be hard to rely on in circumstances when immediate cash on hand is required.
A prime example is one of the world’s richest men: Elon Musk. The Tesla and SpaceX founder belongs to an elite group of people whose net worth has exceeded the $200 billion mark for some time—crossing over the $300 billion threshold for a while in 2021.
However, despite having a net worth of $202 billion and being listed as the second richest man alive at the time of writing, Musk is known to have little liquid capital available. This came to the fore in 2022 when he attempted to purchase X (formerly known as Twitter).
Failing to raise the $44 billion needed to secure the deal, he pledged his personal shares in Tesla and SpaceX to complete the deal because his liquid net worth was almost zero. When calculating his total net worth, he is estimated to have no cash available, with all his worth tied into his companies and over $13.8 billion in liabilities.
Conclusion
The example of Elon Musk above highlights the vast difference between net worth and liquid net worth. One may make you feel better about your financial standing, while the other is a more honest reflection of your finances and will lead you to make better choices regarding raising either of your net worth values.
Proper understanding of these differences is essential to making sound financial decisions. The importance of this understanding cannot be overstated in personal and business activities, with many industries requiring experts, like those who compile the casinos.com top casino analysis, to identify sound investment decisions, trends, and challenges and then plan accordingly.
Selling assets and using them to pay off liabilities may increase both aspects of net worth, as doing so changes the ratio of assets and liabilities. Meanwhile, an easy way to increase liquid net worth is to sell physical items in exchange for cash. These are just some ways to stay on top of both instances of your net worth and lead to smarter financial decisions and stability.
