Your Personal Balance Sheet
Cutting through the BS on the BS
“I grew my net worth $10k last quarter by paying off debt”
F’er: Where did the $10k come from?
“From my savings”
F’er: So your net worth was flat?
“No, the budgeting spreadsheet I paid $2k for says my net worth went up $10k!!!”
F’er: Ohhh I stand corrected, your net worth did change. It went down $2k.
I recently tweeted this paraphrase of a real twitter DM I recently had. It was a much longer conversation, but it could be boiled down to basically the above.
The goal of this post is to explain assets, liabilities, cashflow, and how it all impacts your net worth.
There is a bias called “Mental Accounting Bias”. It tries to describe the process people use to manage their money in their heads. Here is the wikipedia long description of mental accounting bias. But to put it simply, people create little accounts in their head and make different decisions for those accounts which ultimately leaves in irrational behaviors, subpar decisioning, and unintended consequences.
This is important, because there is a little game the budget gooroo scammers play where they conflate some basic accounting concepts to make a non-story into something that sounds impressive. And many of these have CPA in their twitter name, so they know the how basic accounting works.
(Also, it is hilarious when someone who’s job is selling twitter courses keeps credentials as most credentials you need to do continuing education and pay membership dues to retain. So either they are lying about having the credential, or they are wasting time and money every year to keep a credential they don’t use as part of the scam).
The important takeaway is money to pay down debt has to come from somewhere - Either from your asset column or from cashflow. And if you use money from cashflow to pay down debt (put it in the liability column) that is money that doesn’t go to the asset column. And if you treat your finances like most people, you use mental accounting that completely ignores the above fact and make bad decisions.
It is better to think of your finances as an efficient corporation, You LLC, which you are the 100% owner of all shares of the company. And then to ruthlessly maximize value and long-term success probability.
In the end, you will be smarter (or at least better able to discern when someone is pulling a trick) than 99.99% of twitter. And you will learn a little of the (not terribly) boring accounting. Being able to think about your finances with a little more of an accounting view will likely be extremely helpful to you.
And if you read my little twitter exchange and didn’t immediately get the point I was making…you really need this post, so keep reading.