The Rule of 72 and Why It Will Change Your Life
Think back to your math classes you grew up going to. Algebra, geometry, trigonometry, calculus, statistics etc. Do you remember much from them? Probably not.
Why?
Because you never learned practical applications that you can use everyday. The topic today is simple math and how it can dramatically affect your personal finances.
Most of us are aware of and use in some small part a personal budget to track our finances.
This budget can be as simple as looking at your statement at the end of the month to make sure you’re not outspending your income, or as complex as logging every transaction you make down to the penny to make sure you are on track. If we’re honest, most of us are probably somewhere in the middle.
If you follow a budget or track your money in some way, then you know how to add and subtract money. Money comes into your bank account, then throughout the month leaves your account as you spend it.
Simple addition and subtraction. Lets now add a little more complex math and see what can happen.
Before we get into the Rule of 72, we need to understand the concept of interest. An easy definition for interest:
Interest = money paid regularly at a particular rate for the use of money lent, or for delaying the repayment of a debt.
This interest is applied in two ways: interest against you when you borrow money, and interest paid to you when you lend money. We hear about interest rates all the time, but if we’re honest, most of us don’t put much thought towards an interest rate. Whether that be for money we spend or money we invest.
Let me show you the Rule of 72 and then I’ll explain why it matters to you.
The Rule of 72 is a simplified natural logarithm calculation to find the time that it takes for money to double at a given interest rate. Very simply:
Time to double money (in years) = 72 / interest rate
For this calculation, time to double money is in years, and interest rate is expressed as a whole number. Below are some examples.
Let’s talk about how this really applies to your daily life.
When it comes to saving money, whether immediately or for the long term, most of us put our money in places that earn between .25% and 5% interest rate.
For example, the interest rate on a savings account in a bank is anywhere from .25% to .75%. Which means, based on our example from above that it would take 288 years for your money to double at .25%!
You may think, “that’s fine, at least I’m not losing money because its safe in a bank.” Wrong. Do you know what the rate of inflation is? Roughly 3%. That means if your money is staying in the bank, you’re losing money!
Do you know what the bank does when you deposit you money in the bank? The give it to investors so they can earn money. The bank doesn’t even want to keep your money inside their vault because they know its losing value.
Now I want to share with you the even crazier thought. What is the interest rate on your credit card? On average, an interest rate on a credit card is 18–24%…. Let that sink in.
The American Eagle Credit Card you just got to get cash back for shopping with them will charge you 18% on your money. For example, you go to the store and buy $100 worth of goods. Not even close to your maximum limit, and you just pay off the monthly minimum to keep the company off your back. Within 4 years, you have paid $200 dollars for that $100 worth of goods.
If we expand that, think how catastrophic that could be for a family. I know several who live 100% on credit cards, and now have balances totalling anywhere from $10,000 to $30,000. Imagine at 18% that number doubles every 4 years…. You’d never get out of the hole.
I write this as an explanation and a wake up call. When it comes to our money, we are quick to throw it under the rug and not talk about it.
Thinking “it’s no big deal, I can pay it off later.” or “I’m still young, so I don’t really need to think about investing for the future.” Both statements could lead to your financial detriment later in life.
I’m here to help educate and bring to light seemingly basic knowledge and make it as practical as possible. We’ll start right here: Stop saving money at less that 6% and spending money at more than 12%!
The implications of doing one (or both) could become a defining factor in your long term financial success.
If you have more questions, drop me an email, send me a message, I’d love to talk and continue this conversation.
As Always: Stay Humble, Stay Hungry.
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