Retirement Planning: The Power of Compound Interest

June 2nd, 2007

It is imperative that we all begin thinking about retirement from as young an age as possible. Compound Interest is a secret of many wealthy families. They know their kin, absent of any errors or catastrophes, will only get wealthier. The power of compound interest can’t be ignored when discussing investments and retirement plans.

Example #1

A 25 year old decides to invest $200 a month for 10 years. Then he stops investing.

A 40 year old invests $500 a month for 25 years.

Both get 10% return on their money each year.

By the time the 25 year old retires at 65 years of age he will have $667,422.
By the time the 40 year old retires at 65 years of age he will have $590,082.

The big difference is the 25 year old only ever invested $24,000 and stopped thinking about retirement when he was 35 years old, while the 40 year old invested $150,000!

Example #2

A 25 year old invests $3,000 a year ($250 a month) for 40 years.

A 50 year old invests $18,000 a year ($1,500 a month) for 15 years.

Both get 10% return on their money each year.

By the time the 25 year old is 65 years of age he will have $1,327,777.
By the time the 50 year old is 65 years of age he will have $571,904.

Example #3

A keen 25 year old invests $6,000 a year ($500 a month) for 40 years.

A 40 year old invests $6,000 a year ($500 a month) for 25 years.

Both get 10% return on their money each year.

By the time the 25 year old is 65 years of age he will have $2,655,555.
By the time the 40 year old is 65 years of age he will have $590,082.

Example #4

Let’s compare two kids the same age. Assume both get 10% rate of return on their investments.

A 25 year old college graduate named Sue decides to invest $500 a month for 40 years.

A 25 year old college graduate named Sarah decides to invest $500 a month for 20 years.

At retirement:
Sue will have $2,655,555.
Sarah will have $2,311,898.

Sarah only invested for 20 years and has almost just as much money as her peer who invested for an extra 20 years. She saved half of what Sue did but has more than half of Sue.

The Moral of the Story

Start investing as soon as possible! Find out how much money you need to save for retirement by playing with a ‘compound interest calculator’. And remember, the interest rates matter!

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