How to calculate your financial health

An accurate understanding of one's financial well being is of utmost importance at every stage of life. So, whether you are a student, fresher into the job market or a veteran - assessment of personal financial health is important in order to make good financial decisions.

For example, purchasing a car, purchasing a home, taking a student loan, liquidating an investment or making a risky investment - all these decisions can be made only if you know your financial status well.

An individual's financial health is computed by means of his personal net worth. In simple terms, personal net worth is the net asset value of an individual. Personal net worth is calculated as follows:

Total Assets (less) Total Liabilities

One must assess his / her net personal worth on a regular basis. This is because corrective measures can be taken in time if the net personal worth starts declining. It is much easier to recover at early stages than once you find yourself in deep financial crisis.

Your net personal worth will also give you an idea about how financial institutions perceive you as a borrower.  For example, Deepak, an IT consultant with a software company wants to purchase a car. He has set his eyes on the Toyota Corolla. The car dealer informs him that the on road price of the car will come to Rs11.25 lakh.

If he takes a car loan, he will have to pay a monthly EMI of Rs 15,000 towards repayment of the car loan and pay an amount of Rs 100,000 as down payment. Deepak's monthly salary is Rs 0.9 lakh and the EMI as well as the down payment seems easily affordable.

However, Deepak should assess whether he can afford to buy this car at present by considering all his liabilities and assets. His personal net worth should give him a fair idea of his current financial status and whether he can afford to buy the car.

Computation of Deepak's personal net worth

Assuming that Deepak's monthly outflow towards EMIs of outstanding loans is Rs 35,000 and looking at his personal net worth, a corolla is a viable option. This is because he has a positive net worth of Rs 18.73 lakh (Rs 1.87 million). Further he is able to make payments of EMIs with ease considering his current income and should also be able to pay the EMI on the new car loan.

Note that knowledge of current personal net worth is essential to make financial decisions. It is important to reevaluate personal net worth while making any important financial decision as the value of assets and liabilities is likely to change.

Also, net worth should not be considered in isolation. It is a good idea to consider factors like current and future income levels, future liabilities etc.

For example, if Deepak has to bear the expenses of his sister's wedding which costs him approximately Rs 900,000 and he has to sell off some of his investment to meet the wedding expenses, his personal net worth will look different. Further, if the market value of assets declines, his personal net worth will also take a hit. Let us take a look:

Deepak's Personal Net worth is he has to bear his sister's wedding expenses and the economy takes a down turn:

Clearly, in the above situation, Deepak should not purchase a car at present and should concentrate on improving his personal net worth.