Does the idea of watching your money grow right in front of your eyes sound appealing? This is what compound interest can do for you.
It’s an investment/savings trick that allows your money to grow exponentially. The money compounds…It snowballs.
Have you heard or read the story about Benjamin Franklin where he deposited approximately $5000 each for his favorite cities; Boston and Philadelphia in a trust designed to last 200 years? He wanted the money to be used for public works and his condition was that this money is invested and withdrawn only two times; after 100 years and the second and final withdrawal after 200 years.
After 100yrs, each city withdrew approximately $500,000. The second and last payment after 200 yrs had compounded to approximately $20 million for each city.
“Money makes money. And the money that makes money, makes money.” – Benjamin Franklin
Albert Einstein referred to compound interest as the Eighth Wonder of the world. He said, “He who understands it, earns it. He, who doesn’t, pays it.”
Warren Buffet, one of the world’s most successful investors, said his secrets to wealth besides living in the United States and having good genes, is to take advantage of compound interest.
Now, what do they all have in common? They’re successful people… Wealthy people.
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At its core, compound interest is essentially interest earned on interest. It can be defined as interest generated on both the principal (deposit) amount and the interest accumulated.
How compound interest works:
Let’s assume you put a deposit of $2000 into an account paying 10% interest. At the end of the first year, the balance will be; 2000 x 10% = 200
They will deposit $200 into your account and you’ll now have $2200.
If you leave the money in the account, the $2200 will get a 10% interest and you’ll receive; 2200 x 10% = 220 in interest in year 2. At the end of year 2, you’ll have $2420.
Year 3; 2420 x 10% = 242 leaving you with $2662
See what’s happening?
Every year, the interest is earning interest and your deposit is also growing.
The upside of compound interest is it can make you wealthy if you can allow a significant amount of time for your money to grow. It’s a powerful tool that can make your money make money. It accelerates the growth of your investment.
However, there’s a downside. Compound interest can sometimes work against you if you’re not careful.
How can that happen?
When you fail to settle your credit card balance on time, you are charged interest on the balance you owe. Over time, they charge you interest on the interest on top of your initial balance. Therefore, avoid carrying a balance for too long.