The Rule of 72
/ Author: James Oostenbrink
/ Categories: Blogs /
197 Rate this article:

The Rule of 72

Time is money, and money grows over time

By Jim Oostenbrink, Regional Director

I recently had a conversation with a younger member in his mid-20s at a construction site. We explored the topic of time, money, and retirement planning.

I asked him what significant financial advantage he had relative to me regarding retirement planning. He shrugged and wasn’t too sure what I was driving at. He seemed more intent on finishing his lunch than engaging in a retirement discussion with an old grey—actually, very white—bearded guy.

At the risk of interrupting his break, I pressed further with another question: “If you were my age, do you think you would be prepared for retirement?”

“Not too sure,” he responded. “I haven’t thought about it much.”

I could tell from his expression that finishing his lunch in peace was his only priority.

But other young workers in the group listened in and were interested in learning more. Hopeful for an engaging discussion, I returned to my initial question on what substantial advantage they had over older workers.

The answer is a simple one: time.

When it comes to retirement planning, the single greatest advantage young workers have is time, specifically, the power of compound growth that comes with time. As you get older, you lose this advantage.

How does compound growth work? An easy way to understand it is by using a simple financial concept called the Rule of 72. This rule shows what an investment will grow to given an assumption of the percentage growth rate and the amount invested.

The rule goes as follows: divide 72 by the annual percentage growth rate to give you the number of years it will take to double your investment.

For example, it will take 12 years for you to double your investment assuming a modest risk growth rate of 6 percent (72 ÷ 6% = 12 years). At a conservative risk growth rate of 4 percent, it would take 18 years (72 ÷ 4% = 18 years) and at a higher-risk rate of 9 percent, it would take 8 years (72 ÷ 9% = 8 years).

So if you invested $1,000, it would be worth $2,000 in 12 years assuming a growth rate of 6 percent.

Doesn’t sound like much, does it?

To see how much of an impact time truly has, consider the following two scenarios.

1. A 29-year-old worker has saved up $25,000 for a rainy day and decides to invest her savings in a group RSP plan. Assuming an annual growth rate of 6 percent, using the Rule of 72, her investment will be worth $200,000 at age 65. That’s without making any additional contributions.

2. A 53-year-old worker has put away money in his group RSP. But over the years, he’s withdrawn from it regularly due to unforeseen emergencies and to make significant purchases. He thinks that now would be a good time to get serious about his retirement, since it’s only a little more than a decade away. Because he cashed out his RSPs a number of times over the years, he now has only $25,000 left in it. Using the Rule of 72 and a 6 percent annual growth rate, his investment will double to $50,000 by age 65.

Without additional sources of income, that $50,000 will not last long. To be financially secure during his retirement, he will need to make significant yearly contributions to his RSP. Why? Because he has lost the essential and critical power of compound growth that comes with time. He only has one doubling up scenario left, from age 53 to 65. In contrast, the 29-year-old will see her investment double up 3 times, from ages 29 to 41, 41 to 53, and 53 to 65.

Time really is money but only if you invest early and protect your retirement investment. So if you absolutely need to withdraw RSPs due to an unforeseen emergency or to make a major purchase (e.g., to buy a house), make sure you catch up on your RSP contributions as soon as possible. You won’t regret it come retirement time!

Previous Article Updates to Alberta's Workers Compensation Legislation
Next Article Circle of Consciousness