If you’ve ever heard of compound interest, it was probably in the context of a mortgage or student loan (Two terrifying concepts, I’ll admit.). The funny thing is that you’ve probably subconsciously allowed compound interest to have a negative connotation because of the aforementioned loan types. However, if you are willing to change this mindset, you could one day use compound interest to become rich yourself. Yes, this is THE secret of the rich (no, I’m not kidding – read on to find out!)
Compound interest was once defined by the great innovator, Albert Einstein, as being the “eighth wonder of the world”. He also went on to say that “He who understands it, earns it… he who doesn’t, pays it.” I would argue this is one of the most impactful quotes ever said in regards to finance, and life in general. Are you ready to stop paying this interest to the banks, car companies, consumer loans, etc. and to start using this powerful tool for yourself? Let’s dive in!
Take a beautiful glance at the chart above, and then check out my explanation below. You can literally become a millionaire by investing just $5,000 a year. Over the course of 40 years, you would end up with $1,398,905 if your money compounded at just 8% per year (approximately the average rate of return for the stock market). Does this sound crazy, and like magic? Possibly the “eighth wonder of the world”? Hah, maybe that crazy old man was right. We’re on to something!
So let me use myself as an example here. I’m currently 25 years old, and the typical retirement age is around 65. So let’s assume that I continue to work for the next 40 years, fair assessment? I’m well versed to know that the social security program in America is not what it once was, and the majority of retirees may end up working well after retirement age to continue to make ends meet. In my own life, I know a few men over the age of 70 still working. Sure, it gives them something to do so that they don’t grow incessantly bored, but it helps pay bills too. Knowing this, I decided to put away a little over $400 a month (or around $5,000 a year) into my retirement accounts (401k, Roth IRA, etc.) At the end of these 40 years of working, once I’m 65, I will have contributed a minimum of $200,000 (assuming I don’t contribute more as my income grows – the average person’s income grows between 3-5% a year). At compounding interest rates of 8% per year, the money will end up growing into a magnificent investment portfolio of over $1 million USD.
Another magical thing, is if I invest this money all into a Roth IRA (post-tax retirement account) then I would owe a flat $0 on taxes for all of this beautiful money. “What? You’re joking right? Okay… I believed the magic show before, but now you’re definitely getting unrealistic. You better have another Einstein quote for this one, or I’m not listening.” Wait, but I’m serious! With a Roth IRA, you pay taxes on your earned income, then invest it post-tax into the account so that it is tax-free once it matures later in life! You’ve already paid the tax once, and that money will go to work for you and grow into a fortune that you won’t owe taxes on in its maturity! You’re welcome for the life saving hack here.
In closing, instead of letting those greedy banks and corporations get rich from charging you compound interest, let’s flip the narrative. Together, through learning and diligent saving, let’s create better versions of ourselves. Oh, and of course becoming a millionaire by the age of retirement is a wonderful outcome as well.
No Place Like Gone 