Building Wealth - The Magic Math of Compound Interest
Ever wonder why some people are so adamant about saving money (including me)? Ever wonder why some people seem to always have money, particularly those in traditionally wealthy families, but you never do? Although not completely the answer, compound interest has a lot to do with building wealth and retiring early.
Compound interest is the concept of adding accumulated interest back to the principal, so that interest earned on interest from that moment on. Confused yet? Another way of explaining it is with an example. Say you put $1,000 dollars in a high-yield savings account (the only place it should be if it’s in a savings account) at 4% interest. Under traditional interest guidelines, you could expect to earn $40 in one year from the $1000 you invested in the savings account.
Using compound interest principles, however, that $40 becomes $1040.81 (assuming the interest is compounded daily – this number will be different depending on when the interest is added back into the principal). Wow, 81 cents isn’t much, you might be saying, but take that out ten years, and what would be $1400.00 is now $1491.79. You’ve now made $91.79 where you would have had only $400. $91 may still not be a lot to you, but you had to absolutely nothing to earn it. You were paid for your money!
Again, this may not seem like much, but as you add to your principal and it grows, the money can start to add up fast. Imagine the scenario where you have $10,000 or $100,000 in the bank. The interest can be substantial. As this grows, your wealth grows too. At some point, if you become wealthy enough, you can live just on the interest earned by your wealth (Imagine earning 4% interest on a billion dollars – that’s $40,000,000 or forty million dollars!).
So, it is important to, as you accumulate wealth, to get that wealth working for you, even while you are sleeping. Compound interest can do that for you.
Remember to get your money working for you so you don’t have to. Take advantage of the magic of compound interest, and you’ll be wealthy before you know it!
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