Yes, you read that title correctly. We are not talking about saving for your child’s college education, but instead saving for their retirement. Now I know what a lot of you are thinking. It is hard enough to save for my own retirement, and then add in savings for my child’s college education, PLUS now I’m saving for their retirement? What I aim to show today is how a very small amount of savings can grow to a large amount when it is given 50-70 years to grow. Most parents that are able to save money for their children do it with the intent that those savings will be used for college. Even though this is a great way to help provide for your child’s future, those investments are typically only given 15-20 years to grow, and then are spent for higher education. By being able to invest in your child’s retirement as well, you are now looking at a timeline closer to 50-70 years for growth. A far smaller amount of money needs to be saved when you are looking at a timeline of 50-70 years compared to 15-20.. This post will lay out a framework on how you can help your child save for their own retirement.
Let us look at one example of a couple who has a very tight budget but who wants to put away a little something extra beyond just college savings for their two kids. They have determined that they can easily put away $10 a week for each kid without much impact on their expenses. At first sight, $10 a week seems like such a small amount it is not even worth it, but let’s run the numbers to see how it may play out for their kids. Our couple was prudent and started putting money away for each child as soon as they were born, so they are maximizing the amount of years it can grow. We are going to use 8% as the growth rate for the investments. By the time the child turns 18, that amount will have grown to around $20,000 if it can earn 8% a year. $20,000 seems pretty good for only putting away $10 a week or $520 a year. The child could spend that $20,000 on whatever they want, but the goal here is for them to take that $20,000, deposit it in an invest account, and forget about it. If the initial deposit of $20,000 sits in that investment account until the child retires, it potentially has an extra 50 years of growth at 8% annually. When the child turns 68, that investment could grow to around $900,000. Now remember, all that child did was deposit that $20,000; they did not add any more money into that investment account at any time. That is the power of compounding when it is given multiple decades to grow.
Another example is a couple that only has one child and wants to invest $50 a week. Each year $2,600 is deposited into the account totalling $46,800 of contributions over 18 years. If the investments can average 8% per year when the child turns 18, there will be roughly $100,000 in that account. At 18, the child will become owner of the account and hopefully keep the $100,000 invested. The couple encourages their young adult to leave the money invested and to not touch it. Without adding another penny to the account, it has the potential to grow to a very substantial amount. If the money is left in there and grows at an average yearly rate of 8%, when the investor turns 68 the account will be around $4,700,000. Almost $5 million dollars! Remember that the only money contributed to the account was by the parents and was a total of $46,800. This shows the power of compounding if you have 50 years to grow your money.
The purpose of these examples is to show the true power of compounding when given multiple decades to grow. When thinking about saving for a child's college education, a much larger sum must be put away because it has less than 20 years to grow. Saving for a child’s retirement is an entirely different scenario. We have over 50 years to let those investments grow. Since we have so many extra years of growth, a much smaller amount can be invested and still turn into a very large investment. By increasing the time period for the investments by decades, it can increase the value exponentially.
Provided below is a link to a compound interest calculator. Try inputting different dollar amounts that you think would work for your family.
Convexity Investments LLC | Naperville, IL | www.convexityinvest.com
Convexity Investments LLC is a registered investment advisory firm. Information presented herein is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and unless otherwise stated, are not guaranteed. Past performance is not a guarantee of future performance.
Comments