We’ve all heard the old adage, “A penny saved is a penny earned.” Well, with wise investment planning, and time, that penny could be worth substantially more.
Albert Einstein called compound interest the greatest mathematical discovery of all time. “Compound interest is the eighth wonder of the world. He who understands it, earns it … he who doesn’t, pays it.”
Compounding is the ability of an asset to generate earnings which are reinvested to generate additional earnings. In other words, compounding refers to generating earnings from previous earnings. Instead of paying out interest earned on an investment, the interest is reinvested so that the interest in the next period is earned on the original principal plus the earned interest.
Compounding transforms your money into a state-of-the art, highly powerful, income-generating tool. To work, compounding requires both the reinvestment of earnings and time. The more time you give your investments, the more you are able to accelerate the income potential of your original investment.
For example, if you invested $1,000 earning 10% annually and reinvested all of your interest earned, after 20 years you would have $7,727.50, including your initial investment of $1,000.
However, if instead of reinvesting your interest you withdrew it each year, you would collect $100 each year – or $2,000 over the 20-year period. You would still have $1,000 invested, but would have only collected $2,000, totaling $3,000. This is $4,727.50 less than the account that reinvested the income.
But remember, the keys to compounding are time and reinvesting. In order for compounding to work, you must not touch either the principal or the earned interest.
Financial compounding is just one of the strategies our team of financial professionals at Tax Saving Professionals uses to ignite the wealth from your hidden money.