What are Liabilities?

Liabilities are debts or obligations to transfer economic benefits. As we’ve discussed, liabilities are as important as assets when calculating your net worth because they represent the other input to the equation. In order to determine your total liabilities, you need to think of all of your debts and other amounts you owe. Common liabilities include mortgages, student loans, car loans and credit card debt. I recommend creating a template somewhere so you can track all of your liabilities, or use the template here. Then, whenever you want to calculate your current net worth, all you have to do is input the current balances of all of your liabilities and subtract this amount from your total assets. Remember, your wealth is determined by your net worth, and your net worth is your total assets minus your total liabilities. Since liabilities reduce your net worth in this way, the goal is to decrease your total liabilities over time by gradually paying down you debt.

Note: This is not to say all debt is bad. As with everything, there is an opportunity cost to consider. For example, you avoid using debt to purchase assets that depreciate (i.e., assets whose value decreases over time), such as a car. However, using debt to purchase or invest in assets that appreciate, such as a house or business, can increase your wealth over time by allowing you to invest in assets that you could otherwise not afford. In order to come out ahead, you should be confident that the returns from your investment will be greater than the cost of the debt you take on to make the purchase (i.e., the interest payments).

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