Upload
bennett-delaney
View
27
Download
3
Embed Size (px)
DESCRIPTION
The Rule of 72 The most important and simple rule to financial success. Simply put. 72 Is a Magical Number. What is the rule of 72? It can tell you:. How many years it will take an investment to double at a given interest rate using compounding interest. - PowerPoint PPT Presentation
Citation preview
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
The Rule of 72
The most important and simple rule to financial
success.
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Simply put
72Is a
Magical Number
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
What is the rule of 72?It can tell you:
1) How many years it will take an investment to double at a given interest rate using compounding interest.
2) How long it will take debt to double if no payments are made.
3) The interest rate an investment must earn to double within a specific time period.
4) How many times money (or debt) will double in a specific time period.
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
1) How long will it take for our investment to double
When 72 is divided by the interest rate, the answer is the number of years it will take the investment to double.
EXAMPLE: We know our interest rate is 10% on our
investment.
TO FIGURE THIS:72 ÷ 10 = 7.2 YEARS TO DOUBLE
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
ANOTHER EXAMPLE: Compound Interest is 8% How long will it take for the investment to double?
72 divided by 8% = 9 years
At the end of nine years, the initial savings of $100 will have increased to $200 — which is double the amount of initial savings
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
How long it will take debt to double if no payments are made
You borrow $1,000 from a friend, who is charging 6% interest. If you do NOT make ANY payments, how long will it take for your debt to double?
72 ÷ 6 = 12 YEARS FOR DEBT TO DOUBLE
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
The interest rate an investment must earn to double within a specific time period
If a person would like his/her investment to double in 4 years, you would calculate it like this –72 ÷ 4 = 18% interest rate is required on the investment
ANOTHER EXAMPLE: Would like investment to double in 6 years
Need 12% interest rate for investment to double in 6 years
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
How many times money (or debt) will double in a specific time period
For example, if a person earns 6% on a $50,000 investment it will take 12 years to double (72/6=12).
YEARS INVESTMENT1 $50,000
12 $100,000
24 $200,000
36 $400,000
48 $800,000
60 $1,600,000
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
You must remember a few things about the “Rule of 72”
The “Rule of 72” Is only an approximation The interest rate must remain constant The equation does not allow for
additional payments to be made to the original amount
Interest earned is reinvested Tax deductions are not included within
the equation
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
???????????????????????????
Where did the Rule of 72 come
from?
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Albert Einstein
“It is the greatest mathematical
discovery of all time.”
Credited for discovering the mathematical equation for
compounding interest, thus the
“Rule of 72”
T=P(I+I/N)YN
*(Notes below)
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Albert Einstein
Einstein discovered this simple
equation for compounding
interest that allows people to easily understand the time value of
money.
Time Value of Money is a calculation that adjusts for the fact that dollars to be received or paid out in the future are not equivalent to those received or paid out today because of
compounding interest.
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
REVIEW OFRULE OF 72
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
WHAT IS COMPOUNDING INTEREST
Compounding interest is
Interest earning interest on interest!
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Nathan’s Certificate of Deposit
Invested $2,500 Interest Rate is 6.5%
72 = 11 years to double investment
6.5%
Nathan invested $2,500 into a Certificate of Deposit earning a 6.5% interest rate. How
long will it take Nathan’s investment to double?
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Another ExampleThe average stock market return
since 1926 has been 11%
72 = 6.5 years to double investment
11%Therefore, every 6.5 years an individual’s investment in the
stock market has doubled
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Jessica’s Credit Card Debt
$2,200 balance on credit card 18% interest rate
72 = 4 years to double debt
18%
Jessica has a $2,200 balance on her credit card with an 18% interest rate. If Jessica chooses to not make any payments and does not receive late charges, how long
will it take for her balance to double?
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Another Example:
$6,000 balance on credit card 22% interest rate
72 = 3.3 years to double debt
22%
How long will it take for debt to double?
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Jacob’s Car
$5,000 to invest Wants investment to double in 4 years
72 = 18% interest rate
4 years
Jacob currently has $5,000 to invest in a car after graduation in 4 years. What interest
rate is required for him to double his investment?
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Another Example
$3,000 to invest Wants investment to double in 10 years
72 = 7.2% interest rate
10 years
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Rhonda’s Treasury Note
72 = 9.6 years
7.5% to double investment
Age Investment
22 $2,500
31.6 $5,000
41.2 $10,000
50.8 $20,000
60.4 $40,000
70 $80,000
Rhonda is 22 years old and would like to invest $2,500 into a U.S. Treasury Note earning 7.5%
interest. How many times will Rhonda’s investment double before she withdraws it at age 70?
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Another Example $500 invested at age 18 7% interest How many times will investment double before age 65?
72 =10.3 years
7% to double investment
Age Investment
18 $500
28.3 $1,000
38.6 $2,000
48.9 $4,000
59.2 $8,000
69.5 $16,000
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
THE END
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
TaxesA person can choose to invest into two
types of accounts:Taxable Account – taxes charged to
earned interestTax Deferred Account – taxes are
not paid until the individual withdraws the money from the investment
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Taxes ExampleGeorge is in the 33% tax bracket. He
would like to invest $100,000. George is comparing two accounts that have a 6% interest rate. The first is a taxable account charging
interest earned. The second account is tax deferred until he withdraws the
money. Which account should George invest his money into?
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Effects of taxes
Years Taxable
Tax Deferre
d
12 $200,000
18 $200,000
24 $400,000
36 $400,000
$800,000
Taxable Account Earning 4% after taxes
72 =18 years
4% to double investment
Tax Deferred Account
72 = 12 years
6% to double investment
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Conclusion The Rule of 72 can tell a person:
How many years it will take an investment to double at a given interest rate using compounding interest;
How long it will take debt to double if no payments are made;
The interest rate an investment must earn to double within a specific time period;
How many times money (or debt) will double in a specific time period.
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
Conclusion continued Things individuals must remember about
the Rule of 72 include: Is only an approximation The interest rate must remain constant The equation does not allow for additional
payments to be made to the original amount Interest earned is reinvested Tax deductions are not included within the
equation
1.14.3.G1
© Family Economics & Financial Education – Revised November 2004 – Saving Unit – Rule of 72Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences
at the University of Arizona
ASSIGNMENT
- Rule of 72 Worksheet (1.14.3.A1)
- Rule of 72 Math (front & back)
- Compounding Interest Quarterly