Retiring rich may be more possible than you think.
Especially if you’re young, you don’t even need to make a lot of money to end up wealthy, says Tony Robbins, a self-made millionaire and the best-selling author of “Money: Master the Game.” If you consistently set aside a portion of your earnings, whether you make $40,000 or $100,000, and let it grow over time, you could end up with a seven-figure portfolio.
If you’re just starting out in the workforce, “you have the greatest gift on earth: time and compounding,” he says. All millennials need to do is to use those advantages, he says, adding: “When they asked Warren Buffett, ‘What made you a wealthy man? He said, ‘Good genetics, time and compounding.'”
How exactly can these ingredients — time and compounding — help you build your net worth? For starters, it’s important to understand how compounding works.
What is compound interest?
Compound interest makes a sum of money grow at a faster rate than simple interest, because in addition to earning returns on the money you invest, you also earn returns on those returns at the end of every compounding period, which could be daily, monthly, quarterly or annually.
That’s why compound interest causes your wealth grow faster. It’s also why you don’t have to put away as much money to reach your goals.e dialog
Compound interest can also work against you when it comes to loans: It means that every year or month, whatever the frequency specific to your loan, the amount you have to repay gets bigger. So the longer it takes to pay off your loan, the more you’ll owe in interest.
Why does time matter?
The sooner you start to invest your money, the more you’ll benefit from compound interest. Starting to save early means you don’t have to put away as much over time — and even a few years can make a big difference.
To show just how advantageous it is to start saving and investing early on, personal finance site NerdWallet created a chart showing the percentage of each twice-a-month paycheck you’d need to set aside to have $2 million saved by the time you’re 67.
It assumes two different starting points, age 22 and age 30, and that you’re start with zero dollars invested. It also assumes a 6% average annual investment return and various annual salaries.
The 22-year-old has just an eight-year head start on the 30-year-old, but that makes a significant difference in how much is needed to save per paycheck. Scroll over the bars to see the exact numbers.
How to use compound interest to your advantage
Almost anyone save and invest of portion of their paycheck, says Robbins, no matter the size of their salary: “Oftentimes people tell me, ‘I don’t have any money. … I don’t know where to start. I’ve got to wait until I have money before I begin [investing].’ That is the biggest mistake you can make.”
Even if you can only save 1% to 5% of your income in a retirement account, start there. “What you want is consistency,” Robbins says. Then, work towards setting aside 10% to 20%. That may sound daunting, but it’ll be easier to do if you make it automatic, meaning that you have your contributions automatically taken out of your paycheck and sent straight to your retirement account.
As for where you should invest, the simplest starting point is to contribute to your employer’s 401(k) plan, a tax-advantaged retirement savings account that many companies offer, or other retirement savings accounts, such as a Roth IRA or traditional IRA.
“What you want is consistency.” -Tony Robbins, best-selling author of ‘Money: Master the Game’
Many experts, including Warren Buffett, recommend investing in low-cost index funds, like ones that track the S&P 500, which holds stocks for 500 of the largest companies in the U.S., including Apple, Exxon and Johnson & Johnson.
You can also look into robo-advisors, such as Betterment, Wealthsimple and Wealthfront. These are automated investing services that use an algorithm to determine the kind of portfolio that’s right for your age, risk tolerance and time horizon.
No matter how you choose to invest, the most important step is to open at least one account and start contributing to it consistently to take full advantage of compound interest. The earlier you start, the better off you’ll be.
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