Dear Dr. Don,
This question involves how best to make for a better life for my family. How can I make a one-time investment of $5,000 grow into $1 million or more over 60 years? One of my broader goals is to encourage my young grandchildren to save.
-- Dan Deposits
In its simplest form, investing over time is close to child's play. Investment earnings reinvested properly allow for compounding of interest. Turning a one-time investment of $5,000 into a million dollars after 60 years isn't nearly so easy. To achieve this goal, the funds must earn an annual return of about 9.233 percent after taxes.
I looked at this using a financial calculator. You can either use a spreadsheet or, even better, use Bankrate's millionaire calculator. It allows you to play around with different scenarios.
One challenge when working with the calculator involves adding the inflation rate. For example, taking a million dollars with a 3 percent inflation rate over 60 years yields purchasing power of just $169,812 in today's dollars. A million dollars in purchasing power 60 years from now, even if inflation averages 3 percent, requires an after-tax return of about 12.51 percent. That is highly unlikely.
Having said all that, teaching your grandchildren about the power of saving, including compounding interest, is a great goal. You can also teach about inflation and taxes at some point when they are old enough to understand. That might have to wait a few years.