The Rule of 72 Definition Formula Example & Uses Calculation

This deceptively small, cumulative growth makes compound interest extremely powerful – Einstein called it one of the most powerful forces in the universe. The rule of 72 is a handy tool for estimating how long it will take for a financial balance to double in value, however, there are a few limitations to using this rule. Here’s what you need to know about how it works and why it’s a key tool to keep in your investing toolbox. We do not manage client funds or hold custody of assets, we help users connect with relevant financial advisors. Due to the large capital needed to establish a factory and warehouse for coffee machines, you have turned to private investors to fund the expenditure. You meet with John, who is a high net-worth individual willing to contribute $1,000,000 to your company.

This method develops the largest and most reasonable amount an individual can remove, and the amount is fixed annually. To take advantage of this rule, the owner of the retirement account must take at least five substantially equal periodic payments (SEPPs). The amount of the payments depends on the owner’s life expectancy as calculated through IRS-approved methods. You must also withdraw these funds according to a specific schedule, and the IRS offers three different methods for calculating your specific withdrawal schedule. You must adhere to the payment schedule for five years or until you reach age 59 1/2, whichever comes later (unless you are disabled or die).

  • The Rule of 72 applies to cases of compound interest, not simple interest.
  • Or, if a population is growing at a rate of 1% per year, then the population will double in 72 years.
  • This shows that the rule of 72 is most accurate for periodically compounded interests around 8%.
  • Many people underestimate the impact that interest has on loans as the balance due continues to grow over time.

So, whether you’re reading an article or a review, you can trust that you’re getting credible and dependable information. You take the number 72 and divide it by the investment’s projected annual return. The result is the number of years, approximately, it’ll take for your money to double. Our free money tools bring your accounts together in one place so you can monitor your investments and plan for your big financial goals.

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this post may contain references to products from our partners. For our family, we’re going to need around $2-3 million in retirement (factoring in our comfortable cost of living and inflation). Given this, we’ve also been investing in workplace 401ks, my wife’s Roth IRA and even an HSA. There are a couple of valuable calculations you can use to determine different factors in the rule of 72. It was around that time that I decided to keep things as simple as possible with my investing journey. I wanted to find ways to take all the noise and boil it down into language I understood.

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  • Let’s assume you have $10,000 and you want to know what annually compounded interest rate you will need to double your money in 5 years.
  • To take advantage of this rule, the owner of the retirement account must take at least five substantially equal periodic payments (SEPPs).
  • We can also use a future value calculator or the actual future value formula to verify that these numbers are accurate, but we don’t have to.

Therefore, at a rate of return of 5%, the Rule of 72 becomes the Rule of 71. Many investors prefer to use the Rule of 69.3 rather than the Rule of 72. For maximum accuracy—particularly for continuous compounding interest rate instruments—use the Rule of 69.3. Notice that what is the turbotax audit defense phone number although it gives an estimate, the Rule of 72 is less precise as rates of return increase. If your interest rate changes or you need more money because of inflation or other factors, use the results from the Rule of 72 to help you decide how to keep investing over time.

How Do You Calculate the Rule of 72?

The rule of 72 is a helpful tool, but it is important to remember that it is only an estimate. The estimate loses accuracy with very low or very high investment rates. Consider the example of a Certificate of Deposit that pays 5% annual returns, with interest reinvested (compounded). This means it should take nearly 14 and a half years for the investment to double in value.

How to calculate the Rule of 72

Investing even a small amount can make a big impact if you start early, and the effect can only increase the more you invest, as the power of compounding works its magic. You can also use the Rule of 72 to assess how quickly you can lose purchasing power during periods of inflation. The rule of 72 primarily works with interest rates or rates of return that fall in the range of 6% and 10%. When dealing with rates outside this range, the rule can be adjusted by adding or subtracting 1 from 72 for every 3 points the interest rate diverges from the 8% threshold. For example, the rate of 11% annual compounding interest is 3 percentage points higher than 8%. The Rule of 72 formula provides a reasonably accurate, but approximate, timeline—reflecting the fact that it’s a simplification of a more complex logarithmic equation.

Other than the fact that this is only an estimating tool, the other issue with the rule is that it generally applies to longer periods of time. When estimating over longer periods, the ability to achieve consistent returns is problematic, so the actual returns achieved are likely to vary from what the rule indicates. This is the number of periods it will take the investment to double in value. Our goal is to figure out how long it takes for some money (or something else) to double at a certain interest rate. But with a different range, you might want to fiddle a bit — same formula, but different numbers to divide by. An easy rule of thumb is to add or subtract «1» from 72 for every three points the interest rate diverges from 8% (the middle of the Rule of 72’s ideal range).

Managed investing

Daily compounding is rare in investing and mostly happens with savings products such as high-yield savings accounts and certificates of deposit (CDs). This means that your initial $1,000 investment will be worth $2,000 in about 7.8 years, assuming your earnings are compounding. If you instead invest $10,000, you’ll have $20,000 in just under eight years. This also means that $20,000 will double again in another eight years, assuming the same rate of growth — in other words, you’ll have $40,000 in less than 16 years. It doesn’t have to be investment interest; anything that increases your principal benefits from compounding interest.

Account types

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Rule of 72: Using the Rule of 72 to Double Your Money in 5 Years

However, the rule can be applied to anything that grows at a compounded rate. This means that it can be used to predict the growth in for example, the population of a country, over a number of years. The rule of 72 is a mathematical rule that can be used to approximate how long it will take for an investment to double in value.

You can use the formula below to calculate the doubling time in days, months, or years, depending on how the interest rate is expressed. For example, if you input the annualized interest rate, you’ll get the number of years it will take for your investments to double. The Rule of 72 can be used for any asset that grows at a compounded rate.

While usually used to estimate the doubling time on a growing investment, the Rule of 72 can also be used to estimate halving time on something that’s depreciating. Similarly, to determine the time it takes for the value of money to halve at a given rate, divide the rule quantity by that rate. This is most often found attached to savings accounts, money market accounts (MMAs) and certificates of deposit (CDs).

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