CONSIDER THE COMPOUND INTEREST FACTOR
Let us show you how you can save millions on your bond.
If you were given the two options below, which one would you choose?
Get R10,000 every month for the next 10 years
Starting with 1 cent today, get the money doubled every day for 30 days
Do the math
Most people opt for R10,000 per month for 10 years! That is because most people don’t do the math and don’t appreciate the power of compound interest.
Let’s do the math.
R10,000 x 12 months x 10 years = R1,200,000
|18||R 1 310.72|
|19||R 2 621.44|
|20||R 5 242.88|
|21||R 10 485.76|
|22||R 20 971.52|
|23||R 41 943.04|
|24||R 83 886.08|
|25||R 167 772.16|
|26||R 335 544.32|
|27||R 671 088.64|
|28||R 1 342 177.28|
|29||R 2 684 354.56|
|30||R 5 368 709.12|
The 8th wonder of the world
Option 2 vividly demonstrates the power of compound interest, which Albert Einstein called “the 8th wonder of the world”. Unfortunately, very few understand this power of compound interest.
The snowballing effect of compound interest is a topic widely discussed in investment circles. You have probably heard about the massive impact compound interest has on a savings plan and that with a little time, the power of compounding interest can literally move you to the right end of the wealth scale.
Using the power of compound interest to your advantage creates wealth rapidly, as Option 2 demonstrated.
Against the grain
But when the power of compound interest works against you, for example, when it is applied to interest payable on a loan, it can very quickly land you in financial trouble. In a short period of time, interest on debt, and particularly interest charged on unpaid interest on debt, can quickly snowball into a huge financial problem.
For example, if you purchase a house of R1 million with a bond at 10% interest over 20 years, you will actually end up paying the bank R2,316,050. As a result of the effect of compound interest, the total interest you will pay is R1,316,050 – which means you end up paying more than double the original amount of R1 million borrowed.
Make it work for you
Fortunately, even when it comes to interest on debt, using the principle of compound interest correctly can save you thousands of rands.
For example, you can pay off your bond in less than 7 years by simply changing a few habits.