Definitions

It's funny to think of people in terms of how much they are worth, but in finance, our monetary worth is calculated all the time.  A person's financial worth, or net worth, is a tool used in finance to determine the dangers or benefits a bank, credit card, or lending company may experience in lending a person money.  In personal finance, calculating and keeping track of your own net worth can help you get on track, stay on track or attain financial goals, so net worth becomes as important a tool for individuals as it is for financial institutions.

How is Net Worth Calculated?

Last week we took a look at compound interest and how that affects how quickly your money grows. But comparing potential banks, savings accounts, and CDs based on compound interest rates can be much easier by checking out the Annual Percentage Yield (APY).

If you're anything like me, running a Google search and trying to get basic info on a topic can end up driving you bonkers. Take stocks, for example.  Google "stocks," or even "simple stock explanation," and you get over six million matches when all you really wanted were some solid facts in plain English.  Like Denzel Washington in Philadephia, I say: "Explain it to me like I'm a six year old." 

In fourth grade, a banker came to my classroom to teach my class about compound interest. I was fascinated. First, I was shocked that a bank would pay me money to keep it safe, and second, I loved learning how I could make more money if my interest was compounded.  I memorized every single thing that would be on our compound interest test, and I did really well.  My mom even hung my A+ test on the refrigerator for a few days. 

We instinctively know what assets and liabilities are, but defining them precisely can help us make better financial decisions. We've looked at assets already, so let's take a look at liabilities.

A liability is a financial term for an obligation to pay something in the future, which typically takes the all-too-familiar form of debt. Anything that you are required to repay at some point becomes a financial liability, including these examples:

You know our mantra -- knowledge is power when it comes to your finances, and you can't be in the game unless you know the lingo. We hear the words "asset," "liquid asset," and "depreciating asset" thrown around a lot -- now's the time to get a handle on exactly what those terms mean.