If you have a lot of debt relative to your assets or your ability to service your debt, developing a plan to reduce your debt load is crucial. But if you then suddenly acquire wealth—via an inheritance, the sale of a business, or a large bonus—your debt may no longer be large relative to your assets.
While it may feel good, paying down debt will not immediately increase your net worth, as many people seem to expect. You can see this in the Display below. If your total assets are worth $5,325,000 and your liabilities total $1,850,000, your net worth is $3,475,000. If you sell $1,800,000 in marketable securities to pay off the mortgage, your net worth will not change.
But now your assets will be dominated by the $2 million home you own free and clear, rather than the $3 million securities portfolio you used to have. Paying down debt can change your risk profile significantly.