Why the rich get rich: the secret of compound interest

Why the rich get rich: the secret of compound interest

If you’ve ever wondered why the rich always get richer, the reasons may surprise you. It often comes down to two things.

  1. They spend less than they earn
  2. They earn interest in addition to interest (compound interest)

The first reason is pretty obvious. If they spend less than they earn, they will always have more money. Therefore, they will always get richer. The second reason more or less turbo charges the first reason. Say, for example, you have $ 10,000 in an investment account. If that account has an interest rate of 10%, after one year it will have $ 11,000. If you don’t spend any of that money, after two years you would expect to have $ 12,000 after interest is applied. However, you will actually end up with $ 12,100. This is because you have earned interest in addition to interest. That is, the 10% interest was actually applied to the $ 11,000. This is an example of compound interest. Now I bet you’re thinking ‘so what? I only made $ 100 more than I expected. ‘ And that’s correct, but what you need to consider are the long-term effects of accumulating that extra money. The figures below show what would happen to that $ 10,000 if it were invested over different periods of time at an interest rate of 10%.

  • 10 years = $ 25,937
  • 25 years = $ 108,347
  • 50 years = $ 1,173,909
  • 100 years = $ 137,806,123

As you can see, the amounts of money increase by a staggering amount over time. However, realistically, you are unlikely to invest your money for 50 or 100 years unless you are particularly interested in your descendants. However, if you were to spend less than you earn and also invest, for example, $ 500 per month in addition to that original investment of $ 10,000, your money would increase as follows.

  • 10 years = $ 126,742
  • 25 years = $ 730,393
  • 50 years = $ 8,535,637
  • 100 years = $ 1,009,366,604

You are reading that correctly. After 50 years you would have more than 8 million dollars and after 100 years you would have more than a billion dollars! This is not a trick. The math is accurate. What is even more surprising is the huge effects that some small changes can have on the result, for example, if you use a 12% interest rate instead of a 10% interest rate in the example above, your money will grow as follows:

  • After 10 years = $ 143,195 – this is 13% more than before ($ 126,742)
  • After 25 years = $ 1,022,004 – this is 40% more than before ($ 730,393)
  • After 50 years = $ 18,226,138 – this is 114% more than before ($ 8,535,637)
  • After 100 years = $ 5,282,730,057 – this is 423% more than before ($ 1,009,366,604)

I bet you’re thinking now: ‘I wish I was rich, so I could take advantage of it.’ The good news is that you don’t have to be rich to benefit from compound interest. You could potentially benefit by investing whatever amount you are comfortable with. Try it for yourself with a compound interest calculator.

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