So this is a common topic on a lot of personal finance blogs I read and something that I have thought a lot about. Salary vs Net Worth. We all know what a salary is (and if you don’t, good for you, you are independently wealthy. Leave a comment as to how you got there!), but when I was younger, I never really thought about net worth as a thing. I mean, sure, celebrities and business moguls had net worth, but did this even apply to me? Then, as I got older and started to focus on my own financial journey, I started to do more research into the topic.
Net Worth = Assets – Liabilities
Any finance folks out there will be familiar with this as a version of the Accounting Equation, but let’s do a quick real world example for an individual / household:
These numbers are based off some fast and loose googling of averages in the USA in 2017. See the end of this post for links. Yes, averages. Yes, they will be skewed by the US growing income inequality. That can be the topic of another post, but for now, this should give everyone a benchmark for their own situation.
But great. What does that really mean?
I have grown to look at Net Worth as my “parachute” number. (Others gently refer to this concept as a F*** you number, but we are a family site) What I mean by that is that if I had to jump out of the game right now (stop working), how safe would I be? Once that number hits a certain point, given your lifestyle choice, you might be able stay aloft indefinitely. Or you might crash to the ground like a ton of bricks. This is why I have chosen to focus on this number as a measure of where I am in my journey. What is a “good” number? Well, that depends on your lifestyle. A decent rule of thumb is that for every $50,000 of passive income you want to have, you need about $1.6 million in Net Worth. This assumes that you invest your entire Net Worth into something that gives you an average return of 3% per year. Now, keep in mind that this includes your primary place of residence, so if you want to stay where you are, back out your home equity from your Net Worth number and use that.
Below is some US Census data on US Median Net Worth by age. The data was released in 2017, but dated 2013. This is for married households.
So yeah. Not quite $1.6 million? That said, this does not include social security or any pensions (let me know if your company still offers a pension and if so, whether or not they are hiring). Also, it does include home equity and it is unclear how that is calculated.
This is not the article where we dive deep into how much we really need to retire, or what retirement really looks like, or early retirement or whatever. I will try and do a much more in-depth post on those subjects later on and there are some great articles on those topics already out there. The point of this article was to give everyone an introduction to Net Worth and why it is important to the conversations about personal finance.
So what about Salary?
For me, my salary is all about how much I can add to my net worth. As a reference, the average annual American salary in the 4th quarter of 2017 was $44,564. Some of us are much higher and some of us may be lower. Again, just an average.
So how does salary effect your net worth? It’s all about savings. If you are spending more than your annual salary, your net worth is decreasing (going into debt or spending down savings). If you are spending less than your salary, then you are increasing your net worth (paying down debt or increasing savings). This assumes that there are no other passive income streams, but you get the idea. A huge salary means nothing if you use it to borrow even more to spend on non-appreciating assets. And there are plenty of stories out there of people with comparatively meager salaries who are financial free because of disciplined savings, living below their means, and the miracle of compound interest.
So none of this is rocket science and is probably not news to anyone interested in reading a blog on personal finance, but it is a good thing for me to revisit every so often. When I get caught up in what investments I should be studying up on, or when I find myself googling German luxury automobiles, I try and come back to this simple mantra. Always spend less than I make and save the rest. The more I make, the more I can save. I will go into saving rates in another post and what I find has worked for me and my family, but again, just spend less than you make and put the rest towards building up that parachute number.
I do appreciate comments and feedback. I have gained a lot by reading others’ blogs on topics like this and I hope that someone else can read what I am writing and be inspired to make their lives more financially stable.
Here are those links I promised you above!