David B of How Do People Get Rich points out the power of compound interest. I don’t know if I’ve directly discussed it in this blog – I may have taken it for granted that if you found me your fairly well versed in a few basic principles of investing. If you need refresher, check out David’s page – I’ll wait…
Good, glad you came back. One thing that I pointed out in his website is that compounding inflation can diminsh some of the gains. Taxes and investment fees will also eat into them. By the time you are done, 40 years of investing isn’t quite as rosy as many investment magazines and websites would have you believe. About.com has a compound interest calculator that you may find helpful.
I don’t have children yet, but I’m at the age where it will be here before I know it. When junior is born, I plan of putting at least $10,000 aside in a portfolio (probably centered around ticker symbol VTI) for his retirement. I’ll look for some ways to make it tax-friendly, but spend a minute with that calculator and play with how interest compounds over 65 years. I calculate that I can probably get a 6.5% interest gain after inflation and fees. That $10,000 investment will allow my son or daughter to have $600,000 when he retires. And that will be in today’s dollars since I’ve factored in inflation.
The only problem I see with this plan is that it might provide a little too much cushion for my offspring. I want my him/her to be able to make his/her own living instead of being lazy like me. To do that, I’ll need to get some lawyer to set up a trust that allows him/her to access the money only on the condition that he/she can do the same for his/her children.
I don’t have the full plan figured out at this point. However, I’ve got some time to figure it out. Give me feedback on any loose ends I have forgotten.
The only question I have is what about college funds? By quick calcs, at 5% interest, $10k turns into $26k. At 6.5% interest it jumps to $35k.
Seems to me like you’ll need to invest $10k for their retirement and another $10k for education if you plan to go that route.
Don’t you wish your parents had that kind of money when they had kids? Mine didn’t, and noone in my family had the forethought to put any large sums of money away for us. But, maybe that generation (grandparents especially) value a strong work ethic more than anything…
I have to dig through my spreadsheets, but about 4 years ago, I had it planned out how much you’d have to invest in your child’s birth to cover him through some of the bigger life expenses – first cheap car, college, wedding, home, and a good headstart for retirement.
I think that number may have been something like $20,000-$25,000, which isn’t as much as you might think for what you get. There are two things I want to highlight though. One is that your child has more years of compounding than you, so you can take more advantage of this. Two is that you have to be really careful with this – you don’t want to give your child too much of a safety net that he/she never learns to fly on his/her own.
It would be nice if my parents would have been able to do this, but I understand that they couldn’t. It amazes me how incredibly resourceful they were to give me what I had growing up which is a lot more than most.
I really don’t see a reason to save for my kid’s retirement. Of course, maybe if I had 1 to 2 million already in the bank for my retirement I might think differently.
Now, saving for their college is another story. I hope to be able to help out there. ‘Teach a man to fish’ kind-of-thing.
Dogberry
Money & Investing Dogberry Patch