While it’s certainly important for business owners to know their net worth, it could be even more critical for them to know their liquid net worth, as entrepreneur and investor Mark Cuban noted recently. While the two are closely related, it’s the liquid net worth number that will be relevant if a situation arises where you need to pay for or buy something.
A high liquid net worth gives you a greater degree of freedom, since your assets are within your reach, instead of being tied up in your business, home or some other investment vehicle. And if that liquid net worth becomes high enough, the real reward, says Cuban, isn’t the size of your bank account, but rather the satisfaction you get from helping others with it.
“The value of those dollars become much greater, to you and so many others, when you use your business, or other expertise to help others,” he wrote on social media. “Whatever got you to that level of liquidity most likely gives you a unique expertise. That can be put to work to help people who really need it now, or will need it in the future. And you might even make money from it. That’s ok. Compassion and capitalism, not greed, are what can make this country far greater.”
Here’s what you need to know about liquid net worth.
What’s the difference between net worth and liquid net worth?
Your net worth is the total value of all of your assets. Cash, possessions, your business (or your ownership share of your business)—all of it. Particularly for business owners, it can be complicated to calculate, since the value of so many of those assets is not always immediately determinable—and it’s easy to over- or under-estimate the actual number.
Liquid net worth focuses solely on assets you can access quickly. “Liquid net worth represents the sum total of all assets that can be turned into cash within a few days less all liabilities and debts you owe to other people or companies,” says Kirsten Travers-UyHam, an associate professor at Emory University’s Goizueta Business School.
What should I look at when calculating liquid net worth?
Look at anything that’s held in cash or something you can convert to cash almost immediately. That includes any money in checking, savings, or money market accounts, certificates of deposit (though you’ll face an interest penalty for early withdrawal), and any cash you might have stored around the house for emergencies. Treasury bills should be included in the calculations, as can mutual funds as well as stocks or bonds that can be sold quickly.
Can I include my house in my liquid net worth calculations?
Generally, no. Unless you’re about to close on an active sale, real estate holdings or stakes in real estate investment trusts are considered illiquid.
Should I include items like fine art or my Rolex in my net worth calculation?
Again, no. Any sort of alternative investment, whether that’s art, luxury items, or NFTs, generally can’t be included in any calculation of liquid net worth, as you’re often unable to quickly convert those to cash. (Yes, technically, a pawn shop can be used to make some of those items liquid, but you’d be dramatically undervaluing the asset.)
How can founders improve their liquid net worth?
Because you never know when you’ll face a financial emergency, it’s important to have sufficient liquid assets to cover the costs when one arises. That can be a painful move for entrepreneurs who want to reinvest all of their sales into the business to help it grow, but financial experts say it’s the right one.
“Too many founders keep most of their net worth in their business which is not liquid,” says Carolyn McClanahan, of Jacksonville, Fla-based Life Planning Partners. “I encourage business owners to save money and invest in other assets other than their business. For example, they should max out their retirement plans, health savings accounts, and also in a taxable brokerage account. This will provide emergency funds and more financial flexibility through the years.”
Is there any way to include my business in my liquid net worth calculation?
If you’re, say, a sole proprietor, you control both the liquid assets (the money in the company’s bank accounts) as well as the illiquid ones, which can range from equipment to the company’s client list. You can take an owner’s draw from the company (although there may be risks to drawing out too much, as well as tax implications). If you’re taxed as an S-corp or C-corp, this isn’t an option for you.
Alternatively, you can secure a loan, using non-liquid business assets as collateral. This isn’t much different than the pawn shop method of liquidating alternative investments, though—and the danger of undervaluing is much the same. “That comes at a cost,” says McClanahan. “Interest rates to borrow against non-liquid assets are usually not cheap and are usually variable, meaning borrowing costs will go up as interest rates go up.”
Do founders overestimate their liquid net worth?
Just as founders tend to overestimate their overall net worth, they’re sometimes guilty of overestimating their liquid net worth. It’s called the “Endowment Effect,” a cognitive bias where people overvalue an item simply because they own it. And some founders might include assets that aren’t actually liquid in the calculations.
Generally, though, calculating liquid net worth is an easier thing to do than figuring out your overall net worth. “It is easy to see how much your cash and liquid investments are worth on a portfolio statement or bank website,” says Travers-UyHam.
Chris Morris
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