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ARTICLES > The Power of Compound Interest
The Power of Compound Interest
 The Magic of Compound Interest – it can make you or break you.
Albert Einstein called Compound Interest, “the eighth wonder of the world.” This is because he knew the power of it. He knew that, financially, compound interest can make or break us. |
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First, what is compound interest? |
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When you're saving, the bank (or wherever your money is invested) regularly adds interest to your savings. This is usually done every month but can be more often, sometimes daily. If you leave that money alone and allow the original lump sum PLUS the interest to accumulate, you are now earning interest on the original sum AND the interest that has been added. That’s called compound interest (your interest is compounding) and once your money begins to compound in this way the results can be staggering.
The magic of compound interest works best over longer periods of time. The longer the time, the more powerful the magic. That means, the earlier you start saving, the more you make from compound interest.
Here’s how powerful it can be:
Say a 20 year old decides to get in early with his retirement savings and puts aside just $10 a week until he’s 65 years old. Based on an interest rate of only 4.0% per annum, in forty-five years the 2,340 weeks worth of $10’s has become $23,400 plus $39,535 interest. That’s $62,935! (And that’s only at 4.0% interest). Note, our 20 year old has earned more in interest than he did in capital savings.
Now, say the same person decided to put aside $50 a week, their $104,000 investment becomes a $177,400 nest-egg.
The power of compound interest really clicks in over a longer period of time. For instance, here’s how our $50 a week investor’s savings look with each passing decade:
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Age |
Capital invested |
Interest earned |
Total in bank |
After about 22 years of investing, you will be receiving more in interest than you have invested in cash - that's the magic of compound interest. |
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30 |
$26,000 |
$5,215 |
$31,215 |
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40 |
$52,000 |
$25,423 |
$77,423 |
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50 |
$78,000 |
$67,820 |
$145,820 |
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60 |
$104,000 |
$143,066 |
$247,066 |
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65 |
$117,000 |
$197,676 |
$314,676 |
As you can see, the longer you save for, the greater the power of the compounding interest. This continues until, after about 22 years, the capital invested will be less than the interest earned on that investment.
But remember: the magic of compounding interest is a two-edged sword. What is true for saving money is also true for debt. This means that, the longer you have to pay on your mortgage, the greater the amount of interest you will owe. It's obvious I know but many people do not realise the implications of this. In short, the earlier you make repaying your mortgage a priority, the more you can save. Check out this table;
This table estimates the percentage of interest you are paying on a table mortgage
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Years to go on your mortgage |
% of principal you will be charged |
So, if you owe; |
The bank will charge you (interest); |
That's a total repayment of; |
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30 |
150% |
$250,000 |
$375,000 |
$625,000 |
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26 |
125% |
$250,000 |
$312,500 |
$562,000 |
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22 |
100% |
$250,000 |
$250.000 |
$500,000 |
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17 |
75% |
$250,000 |
$187,500 |
$437,500 |
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12 |
50% |
$250,000 |
$175,000 |
$375,000 |
Please note: this calculation is based on 7.5% interest - the figures in the three right hand columns will vary according to interest rate.
The figures in the table are estimates only - exact figures will be slightly higher. |
The lesson to be learned from this:
► If you are saving for retirement - the sooner you start the better, thanks to the magic of compound interest.
► If you wish to pay off your mortgage faster - the sooner you start the better, thanks to the magic of compound interest.
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FORTIfi Mortgage Calculator |
To calculate your remaining mortgage repayments, click on the calculator.
This will take you to a page on the FORTIfi website where you will be able to access the FORTIfi Mortgage Calculator. |
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