Roberto listed his assets and liabilities on a personal balance sheet. After creating the balance sheet, Roberto decided to use his investments to pay off his car loan. How will that decision affect the difference between his assets and liabilities?

• A. It will make the assets $5,000 less than the liabilities.
• B. Net worth will increase by $5,000.
• C. Net worth will decrease by $5,000.
• D. Net worth will remain the same.

Answer: (A)

Net worth is the difference between what you own (assets) and what you owe (liabilities). When you use investments to pay off a loan, you’re simply converting part of your assets into cash to settle a liability. The total amount of assets after the transaction ends up the same as before minus the cash used, and the liabilities drop by the same amount, so the net worth stays the same.

For example, if you have assets totaling 60,000 and liabilities of 40,000, net worth is 20,000. Using 5,000 of investments to pay off the loan involves selling 5,000 of investments for cash (assets still 60,000 in total), then paying the loan so liabilities drop to 35,000 and cash drops to 0. Your remaining assets are 55,000 (the 5,000 from investments is now gone, but other assets total 30,000 and the investments left are 25,000), and net worth is 55,000 − 35,000 = 20,000. The difference between assets and liabilities remains the same.