“Compound interest has been called the 8th Wonder of the World.
He who understands it, earns it. He who doesn’t, pays it.”
— Albert Einstein
If there ever was a statement that hit the mark, this is it.
An IUL is the only way to safely achieve double-digit growth without the risk of market losses, while simultaneously shielding your compound interest curve from tax erosion.
Even for the person not maintaining bad debt and paying compound interest, the Lost Opportunity Cost of not earning it on your safe and liquid cash reserves can be staggering.
Start Here by Looking at The Table Below
A Compound Interest Tutorial
So, what is compound interest? This tutorial assumes you know what interest is so we will not discuss its mechanics other than how it pertains to compounding.
Stated simply compound interest is interest on interest. Compound interest makes the sum grow faster than simple interest.
Because simple interest is calculated only on the principal amount.
Compound interest includes interest on the principal amount and accumulated interest from previous periods on a deposit.
Illustrating simple interest and compound interest should illuminate the process.
First, simple interest.
In both examples the principal amount will be $1,000 and the interest rate will be 10%. The illustrated term will be annually for 3 years.
Simple interest is applied like this:
Year 1 – $1,000 X 10% = $100 in interest. Deposit balance = $1,100.
Year 2 – $1,000 X 10% = $100 in interest. Deposit balance = $1,200.
Year 3 – $1,000 X 10% = $100 in interest. Deposit balance = $1,300.
Compound interest is applied like this:
Year 1 – $1,000 X 10% = $100. Deposit balance = $1,100.
Year 2 – $1,100 X 10% = $110. Deposit balance = $1, 220.
Year 3 – $1,220 X 10% = $122. Deposit balance – $1,342.
Note: This example assumes you did not make any deposits to principal during this 3 year period. Had you made a deposit in one or any of those years the interest in both scenarios would have been higher.
Note 2: You will notice simple interest is applied to only the original principal balance. The account earns interest but only on the principal balance. Compound interest pays interest on the entire balance. That is a major and very important difference.
Since interest charges are fluid, interest can be compounded on any given frequency schedule, from continuous to daily to annually. Obviously you would pay attention for the type of instrument you are considering.