What Is Liquid Net Worth And Why Does it Matter?

Liquid net worth refers to all your assets that are readily convertible to cash minus debt and liabilities such as loans.  It typically includes assets such as cash deposited in checking or savings accounts, bonds, mutual funds and brokerage investments. It does not include hard assets such as real estate, or retirement assets such as 401Ks, since there is usually a penalty to withdrawing these assets before retirement age.

Why is liquid net worth important? Why does liquid net worth matter in financial planning?

People can be faced with situations where they have an emergency or need to deploy money immediately. It could be because someone got laid off and needs to pay for a few months’ expenses until they find another job. Or  money could be needed for home repair or remodeling. Some individuals or families may suddenly be hit with healthcare expenses that they have not planned for. Or one may want to travel for a few months or start a business or get a graduate degree. 

In such cases, you cannot sell your hard assets such as a house to pay for such expenses. This is where liquid net worth comes in. Your liquid net worth such as cash or investments can be tapped to pay for emergencies or any sudden expenses.  

Key elements of liquid assets

Your assets should meet the following criteria to be considered liquid:

• Immediate: They should be easily converted to cash on an immediate basis. 
• Predictable: The value you will get from converting the asset to cash should be predictable and you should be able to estimate exactly how much you can get for the asset. 

As an example, you can track the value of stocks or mutual funds in real time and know precisely how much you can sell them for. These assets can also be sold almost immediately and you can get your funds as cash almost right away, or in a few days, at most. 

Types of liquid assets

Cash or cash equivalents

Cash in checking, savings accounts: Cash that is available in bank checking and savings accounts is the most readily available asset class and can be easy used to pay for emergencies without incurring penalties and losses. The flip side of maintaining too much money in cash is that it does not grow much, unlike other investments such as stocks. So you need to carefully balance between having enough money for emergencies in cash vs investing in assets that have healthy rates of growth.

Cash equivalents include certificates of deposit or money market funds. Certificates of deposits (CDs) and fixed deposits (FDs) are funds you deposit in a bank or financial institution and allow you to earn a fixed interest. CDs typically have shorter maturity dates than FDs. These funds are liquid and can be withdrawn but there can be a penalty for doing so, typically in the form of missed interest gains.

Money market funds are mutual funds but invested in short term cash or cash equivalents. Therefore, they are very liquid but have low rates of return compared to stocks or mutual funds.  

Marketable securities

Stocks and mutual funds are considered liquid assets since they can be easily sold and traded to generate money quickly. However, if you sell when it is not quite the right time, you may miss out on investment growth or even incur a loss. So if you want to generate liquid funds for an emergency, you may consider using cash and cash equivalents before selling stocks or mutual funds.

Bonds are loans made by lenders to a company or the government. Bonds are marketable securities and can be bought and sold in secondary markets.

All of the above asset classes can easily be tapped and converted to liquid cash that can be used for any necessities, albeit with some penalties or missed growth opportunities.

How to Calculate My Liquid Net Worth

Liquid net worth can be calculated by subtracting liabilities from liquid assets. The formula is as follows:

• Liquid Net worth = Liquid Assets – Liabilities
• Liquid net Worth =Cash + Bank Balances + Bonds + Mutual Funds + ETFs + Investments – Student loans-Car Loans -Personal Loans

Example

Let us consider the following example to make things clear:

Let us say you have the following assets:

• 401K: $250,000
• IRA: 30,000
• Roth IRA: 20,000
• Mutual funds: $ 100,000
• Cash: $10,000
• Money market funds: $20,000
• Robinhood brokerage account: $50,000 

You have the following liabilities:

• Student loan balance: $20,000
• Car loan balance: $25,000

Calculating your liquid net worth

• Your Liquid assets = Mutual funds ($100,000) + Robinhood Brokerage account ($50,000) + cash ($10,000)+Money market funds ($20,000) = $180,000
• You liabilities = Student loan balance ($20,000) + car loan balance ($25,000) = $45,000
• Your liquid net worth = Liquid assets ($180,000) – Liabilities ($45,000) = $135,000.

Important: Note that we do not include the 401K, IRA and Roth IRA to compute the liquid net worth.

How to build liquid assets?

Reduce expenses

As in most things in personal finance, reducing expenses has perhaps the highest impact in saving more and building you net worth. If you save a higher proportion of your income in investments or as cash reserves, you start building more and more liquid assets.

Build an emergency reserve

First build an emergency fund, equivalent to 3-6 months’ living expenses. This will ensure that in the event of a sudden money emergency such as a job loss, or a home repair, you are in a position to pay for these expenses to tide over this emergency. Emergency funds are maintained typically in cash or money market funds or treasury accounts, to facilitate easy withdrawal without much penalty.  

Save for short term goals

Save for goals that will require liquid assets, such as graduate school, taking time off to travel or even early retirement. You can set up separate accounts for these goals and fund these accounts regularly to build up the liquid assets needed for these goals. 

Regular Investing

By investing regularly in stock or mutual funds, you can grow your investment portfolio slowly but steadily. Make sure to look into investment fees and ideally focus your investments on low-fee funds. Always remember that returns are correlated with risk, so be careful to balance investment growth with sound risk management principles.

Balance assets for short- and long-term goals

When building your assets, you need to allocate them carefully between longer term goals such as retirement and for short term goals such as paying for a home remodel. For retirement assets, you ideally want to save in tax advantaged funds such as 401Ks from which it is hard to withdraw money before your retirement years without paying a penalty.

Another piece of your allocations should be saved in hold and buy investments such as mutual funds or stocks. These funds can be converted to cash if needed but you may miss out on asset growth or have to take losses if you have to sell in an emergency. Still, these funds will be available for withdrawal whenever needed and are easily converted to cash.

Your emergency funds should be saved in cash or cash equivalent such as money market funds. These are easily withdrawable whenever needed to pay for emergencies or any immediate expenses.

Review and adjust your financial status regularly

You should review your financial plan periodically, at least once a quarter to make sure that you are on track for your goals and have enough money saved in liquid assets for emergencies or a rainy day. It is useful to look at your expenses and budget monthly or even weekly, to ensure that your spending is under control and to take corrective action if you are overspending.

FAQs about liquid net worth

1.Do 401Ks or IRAs count as liquid assets??

No. 401K, s IRA or Roth IRAs are tax advantaged retirement accounts that are not considered liquid for 2 reasons:

• There is a penalty for withdrawing funds before the stipulated age of withdrawal. For example, the penalty for withdrawal of 401Ks before the age of 59 ½ is 10% of the assets being withdrawn, in addition to the income tax you will pay at withdrawal.
• Retirement assets should long term assets and used for funding your retirement expenses. Using them for immediate financial needs will put your retirement at risk.

2.Do cars count as liquid assets?

Cars may not sell as quickly and may take a few days or weeks to sell. They also may not yield the current market value and may actually sell for lower than the market value especially if you are in a crunch and need money quickly.   

3.How about collectibles or jewelry? Do they count as liquid assets?

No, typically jewelry and collectibles are not considered liquid. Collectibles and jewelry may take a long time to find a buyer. In the case of collectibles, there is a limited pool of buyers and it may take a long time to find a buyer.

4.What about real estate?

Real estate asset value does not count as liquid net worth since real estate takes a while to sell. Moreover, if it is your primary home, you will still need to live somewhere else, and proceeds from selling this home may go into finding another place. So real estate assets are certainly not liquid assets.

However, rental income from real estate is typically cash and will go towards building your liquid net worth over time.

How Planwell Helps You Manage Your Liquid Net Worth

At Planwell, we are building a fully automated AI financial planner and advisor to help you track your wealth and make effective financial decisions. Planwell helps you track your liquid net worth including assets and liabilities  and evaluate how much you need to save for emergencies and various financial goals that will require you to deploy your net worth. 

Conclusion

It is important to allocate a portion of your wealth as liquid assets that are readily convertible to cash and can pay off emergencies or immediate financial needs such as a home remodel, medical expenses or repairs.  

At Planwell, we are building a fully automated AI financial planner and advisor to help you make super personalized financial decisions such as how much house you can afford, while considering your lifestyle, retirement goals and other key factors. 

We will be launching the product very soon. Stay tuned for an update. In the meantime, check out our blog posts to help you plan your finances.

• How to build a personal financial plan: Before you make a home purchase, make sure to build your personalized financial plan with our 10 step guide. 
• How to Use AI Budget Calculators and Tools to Plan Your Finances: Take advantage of modern technology to plan your finances more effectively.
• 5 Common Money Mistakes to Avoid: Learn about the pitfalls that could derail your early retirement plans.
• 5 Overlooked Workplace Benefits That Can Save You Money: Maximize your work benefits to boost savings and well-being.

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