The concept of making your money work for you so you don’t have to work so hard isn’t new. Compound interest, however, is a relatively new phenomenon. It has changed how we build wealth and has actually made wealth-building more accessible for millions of people. The beauty of compound interest is that anyone can benefit from its advantages as long as they’re willing and able to invest their money.
How Compound Interest Works
Simply put, compound interest means you earn interest not only on a principal amount, but also on the interest you receive. For example, if you invest $100 and earn 10% interest annually, you will then earn interest on $110 during the next compounding period without additional contributions. Then you would earn interest on those earnings, and the cycle would continue.
This compounding effect allows wealth to grow exponentially rather than linearly. There are multiple factors that influence the amount an investment will grow through compound interest, including:
- The interest rate earned on your investment
- The frequency of compounding
- The amount of time your money has to grow
Naturally, the higher rate of interest, the more your money will grow. But higher interest rates are often accompanied by higher risk. Additionally, higher frequencies of compounding will result in greater growth. And because compound interest growth is exponential, the amount of time an investment has to grow is perhaps the most important factor when it comes to building wealth.
The Time Value Of Money
The time value of money concept states that money you have now is worth more than the same amount of money in the future. This is because money has the power to earn interest, so the earlier you receive and start investing that money, the more time it has to grow exponentially.
Consider the example from above: If you receive $100 today and invest it at a 10% interest rate compounded annually, you would have $110 a year from now. Therefore, that $100 is worth more to you today due to its earning potential over time.
The Miracle Of Compound Interest
To truly understand the awesome power of compound interest, suppose you are able to save $2,000 a month. If you saved $2,000 a month for 30 years in a non-interest bearing account, you would have $720,000 at the end of the savings period.
But if you invested $2,000 a month into a tax-deferred retirement account that earned 10% for 30 years, you would have $3,947,856.54. (1)
Conversely, if you invested $2,000 a month for just 15 years at the same annual rate of 10%, you would only have $762,539.56. That’s a difference of more than $3,000,000. Without a doubt, the longer amount of time you’re able to invest, the more drastically your wealth can grow.
This is why you shouldn’t wait another day to start saving in compound interest investments.
Learn More About Compound Interest With A Trusted Partner
The power of compound interest should be an integral part of your financial and retirement planning. If you need help understanding and capitalizing on compound interest opportunities, let Bridgerland Financial help you bridge the gap. We use the latest financial techniques, solutions, and one-on-one education to bring clarity and confidence to your financial life. Please call us at (435) 535-1630 or schedule an appointment online.
David Packer is founder and financial advisor at Bridgerland Financial, an independently managed financial firm in Utah. With 20 years of industry experience, David serves his clients by helping them bridge the gap between their working years and their retirement. He provides tailored, comprehensive financial plans to his business owner and individual clients so they can retire with confidence. David has a bachelor’s degree in finance and holds the Chartered Retirement Planning Counselor℠ (CRPC®) credential. Outside of the office, David loves to spend time with his wife and five kids and stay involved in his community. He currently serves on the board of directors of the Cache Valley Chamber of Commerce. He and his wife, Melonie, spent years as foster parents and eventually adopted their foster children. David loves playing and watching all kinds of sports, including officiating high school sports, and won’t turn down a good board or card game. Learn more about David by connecting with him on LinkedIn. You can also register for his recent webinar, What We Do & How We Help here.