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Using the Rule of 72

The Rule of 72Have you ever wanted to estimate how much your investments will grow or even how much money the credit card company is making from you? You can do this by knowing The Rule of 72. This rule can estimate the number of years it will take to double an investment. It can be used to estimate when your debt will double if you aren’t paying it off. The Rule of 72 can also be used to estimate the effects of inflation down the road.

The Rule of 72

This rule can be represented in the following ways using basic algebra:

72 = Years to Double * Interest Rate

Years to Double = 72 / Interest Rate

Interest Rate = 72 / Years to Double

 

The Interest Rate can be the rate of return on an investment, the inflation rate, or the interest rate on your debt. Let’s look at some examples of how this rule can be used.

Investments

If the rate of return on your investment is 10%, like the S&P 500 has averaged over the years, the years to double your investment would be 7.2 years. Years to Double = 72 / 10.

If you have $100,000 invested with a 10% rate of return, in about 7 years your investment will be $200,000. Seven years after that, the investment will double again and will be around $400,000. Every 7 years it will double if you are making a 10% rate of return on your investment.

Interest on Debt

If you have debt that you are not making payments on, like student loans in deferment, you are still being charged interest on that debt. The Rule of 72 is used the same way as our investment example above, except it’s debt that’s getting bigger. If your student loans have an average interest rate of 7%, your student loan debt will double in about 10 years. Years to Double = 72 / 7.

For another example, if you quit paying on your credit cards with an average interest rate of 18%, your credit card debt will double every four years. Years to Double = 72 / 18. Four years! In four years your debt will double with that high of interest rate! Your $10,000 credit card debt becomes $20,000 in four years if you don’t pay anything! This doesn’t include the late fees and interest rate increases that you will get.

With high interest rates, it takes a lot of effort and dedication getting out of debt. This is why you need to be gazelle intense when getting out of debt.

Inflation

When calculating the effect of inflation on the spending power of your money in the future, The Rule of 72 can be used here as well. If inflation is 3% every year, our money will be worth half (the inverse of double) the value in 24 years. Years to Halve = 72 / 3. With a 3% rate of inflation, our money will be worth half its purchasing power every 24 years.

If you have $1,000,000 right now, in 24 years it will have the same purchasing power as $500,000 does today. If you plan on needing one million dollars before you retire today, every year after this year you need another 3% more to have the same purchasing power. In 24 years, that will equal $2,000,000 to have the same purchasing power as $1,000,000 today.

Another way to use this information is to look at how much you spend each year right now. In 24 years, with a 3% rate of inflation every year, you will need twice as much to have the same lifestyle.

 

You can use The Rule of 72 to quickly estimate some helpful financial information. You can use it to know how much your debt will keep increasing. Hopefully, you use this information to get mad at your debt and get it paid off.

The Rule of 72 can also be used to estimate your future wealth and the purchasing power of it. When you are planning, use this rule for quick estimations. You don’t need spreadsheets or complex math, and you don’t even need to be a math nerd.

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