Lessons of Compound Interest: Time is money

Time is a required ingredient to put compound interest to work for you.   Here is how you can maximize the time for your investments to grow:

Invest now

You need decades for compounding to really kick in.  Sadly, none of us are getting any younger so we better invest as much as we can today!  Say Bob starts working at 22 and invests $6000 each year.  If he earns 8% compounded quarterly until he is 65, his final total is $2,229,668.  If he starts investing just five years later his total drops by more than $750,000 to $1,475,485. Time really is money, with compound interest each $1 you invest today will be worth a lot more than if you waited even a few years to start.   So, consider what expenses could you reduce today for a better tomorrow?

Don’t cash out

If you cash out your retirement savings, you sacrifice a small fortune in future growth.    After 3 years of contributing $6000 each year to a retirement account Bob’s investments are worth $20,520.  If Bob cashes out to buy a car, how much will that cost him in retirement?  Would you believe almost half a million dollars!   That’s a pretty expensive car isn’t it!  Investing for just three years less with 8% return totals $1,741,897 which is $487,771 less.

Keep Investing!

Even if you didn’t start early enough, or you made the mistake of cashing out you could catch up by investing longer.  Bob could try work for another three years and retire at 68 to pay off that half a million dollar car!  I wouldn’t want to count on this option for retirement as health problems could make it impossible.  However, delaying collage a year or two isn’t the end of the world.  Even a few more years could make a big difference in your final investment total.

Delay Withdrawing

If you can’t invest more, your investments can continue growing as long as you don’t withdraw too much.   In fact when you are nearing retirement the growth on you investments should be much larger than your contributions!  If Bob’s health isn’t too good and he has to retire at 65 his investment is growing by almost $150,000 a year.   Adding an extra $6,000 won’t have much of an effect at this point.  If Bob can live very frugally and work part time for three years without contributing anything his total is $2,209,147.

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