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Financial Planning > Tax Planning

The miracle of compound interest

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The next 15 months will be among the most interesting and challenging in the history of our country. During the election campaigns, we will be debating Social Security, Medicare, Medicaid, health care and interest on the debt at every level of politics. Arguments will rage on about higher taxes, lower benefits, inflation and increased volatility in our financial markets.

This will create the most aware and least informed American electorate in history. How’s that? Everyone is “aware” of the challenges we face. But uncertainty and misinformation lies in the plethora of solutions. With so many ideas not working, how do we choose what will work? This is your opportunity. You are the only people with the tools to help Americans take control of their financial futures.

Confusion means opportunity
Americans are confused. They don’t know what to believe. We must simplify our explanations of financial products, because understanding inspires action. And Americans must take action on these financial “miracles” or they will never achieve financial independence.

Let’s talk about what I call the “miracle of compound interest.” I use the accounting rules of 72 and 115 as a simple way to explain this spectacular benefit.

The rule of 72 computes how long it will take money to double by dividing the interest rate into 72. So if your prospect or client earns 4 percent interest, it will take 18 years for their lump-sum investment to double (72/4 = 18). Using 6 percent, it would take 12 years (72/6 = 12).

The rule of 115 calculates how long it takes money to triple. If your prospect or client earns 5 percent interest, it will take 23 years for their money to triple (115/5 = 23).

Conversely, these rules can also demonstrate the dramatic impact of inflation. If you divide the inflation rate into 72 or 115 it will tell you how many years before you need two or three times what you are living on now.

I use these rules to make sales. For example, if grandparents have disposable income, I ask them to make a gift to their grandchild of $10,000. If the money earns on average 6 percent interest, the child will have six doubles by the time he or she reaches 72. That $10,000 gift, left alone, becomes $640,000.

When I am talking to parents, I use these numbers to help them think about expected costs in retirement and to illustrate the effects that inflation will have on their savings.

Share the miracle of compound interest and your sales will increase. Simplify and you will succeed.
In the coming months, I will discuss the miracle of tax-deferred compound interest and the miracle of leveraging.


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