The Power of Compound Interest Vs. The Power of Money!

So let’s say you’ve just started working and you discover your company offers a 401(k) plan, which is a long-term savings account with your company. Many companies auto-enroll their employees, but most do not—offering the worker the choice of enrolling now or later. If you possess a cursory knowledge of basic compounding, you should understand this example very clearly:

Consider two workers as they enter the workforce:

Worker A is an engineer at Deferred Gratification Ltd., who begins immediately contributing to his 401(k) at 25—he contributes $3600/yr – That’s $300/month for 10 years--and stops contributing at 35. We assume of course that he can contribute $300/month and contributes no more than this, even if he receives raises (and can have a little fun). He contributes nothing else until retirement.

Worker B, (a former roommate) starts at Slacker Inc, but decides that he can get serious about investing later—like 10 years later. Now that he has a family on the way, Mr. Slacker realizes at 35 that he’s done playing around so much and wants to get serious. Very serious. He starts dumping 10,000/yr into his 401(k) – a whopping 833.33 a month, every month, until he retires.

Which worker do you think will be better of at retirement of 60 years old? Consider the investment strategy—Worker A invested a total of 36,000—3,600 over 10 years, and completely stopped at 35 and spent the remaining 25 years spending however he pleased. Worker B invested a total of $250,000 over 25 years. That’s a quarter of a million bucks, which is very hard to come by for even the most wealthy middle-classers.

I won’t keep you in suspense any longer, but you probably already know how it’s going to turn out. Turns out Slacker Guy didn’t do too badly. All that saving paid off, and our Slacker ended up with about 757,000. But Worker A also did well with 768,000—11,000 more than the other guy, and 214,000 less invested! Truly, the power of compound interest is at play. The more time that the money has to collect interest, the less the amount invested really matters. The Table below shows the year-by-year accumulation of each worker. (WARNING--If you are reading this in Facebook, the table below will not format correctly; click "view original post" to go directly to this blog and view the table.)

Age	Worker A	Worker B	Difference
25	3,000.00	0	3,000.00
26	7,260.00	0	7,260.00
27	11,946.00	0	11,946.00
28	17,100.60	0	17,100.60
29	22,770.66	0	22,770.66
30	29,007.73	0	29,007.73
31	35,868.50	0	35,868.50
32	43,415.35	0	43,415.35
33	51,716.88	0	51,716.88
34	60,848.57	0	60,848.57
35	70,893.43	10,000.00	60,893.43
36	77,982.77	17,600.00	60,382.77
37	85,781.05	25,960.00	59,821.05
38	94,359.15	35,156.00	59,203.15
39	103,795.07	45,271.60	58,523.47
40	114,174.58	56,398.76	57,775.82
41	125,592.03	68,638.64	56,953.40
42	138,151.24	82,102.50	56,048.74
43	151,966.36	96,912.75	55,053.61
44	167,163.00	113,204.02	53,958.97
45	183,879.30	131,124.43	52,754.87
46	202,267.23	150,836.87	51,430.36
47	222,493.95	172,520.56	49,973.39
48	244,743.34	196,372.61	48,370.73
49	269,217.68	222,609.87	46,607.80
50	296,139.45	251,470.86	44,668.58
51	325,753.39	283,217.95	42,535.44
52	358,328.73	318,139.74	40,188.99
53	394,161.60	356,553.72	37,607.89
54	433,577.76	398,809.09	34,768.68
55	476,935.54	445,290.00	31,645.54
56	524,629.09	496,419.00	28,210.10
57	577,092.00	552,660.90	24,431.11
58	634,801.20	614,526.98	20,274.22
59	698,281.32	682,579.68	15,701.64
60	768,109.45	757,437.65	10,671.80
Invested:	39,600.00	250,000.00

Which brings us to one of the most primary lessons in investing—you don’t have to be rich to get started nor know too much of anything about stocks and bonds and which to buy. Starting out by participating in your company’s 401(k) plan is a great first step to getting on the road to true financial success. Once you’ve gotten the personal finances under control, you can start concentrating fully on the investing part. And the earlier you start the better!