Rule of 72: How it works and when to use it
The real estate investing dream is having your money work for you, rather than the other way around. If you’re buying investment property, you’ve probably envisioned a scenario where you generate some amount of passive income. You may have also bet that you’ll be able to sell that property for more than you bought it, thus generating a profit that will make your investment well worth it.
Of course, there are other ways to invest your money—stocks, mutual funds, high-yield savings accounts—but before you decide on an investment strategy, you may want to forecast growth. The Rule of 72 is a handy way to measure just that, and it should become part of your financial literacy.
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What is the Rule of 72? Example applications of the Rule of 72 Drawbacks to the Rule of 72What is the Rule of 72?
The Rule of 72 is an easy, quick calculation you can use to figure out the number of years your investment will take to double with a set annual rate of return. It can also be used to determine how much you’ll have to pay in certain fees that banks or funds may charge you to keep your money or give you a credit card, or even to determine just how long it will take a currency’s value to be cut in half due to inflation.
The equation for the Rule of 72 looks like this:
72 / Your annual rate of return = Years it will take your money to double
Example applications of the Rule of 72
Let’s say your money is in a standard savings account, earning around 1% interest yearly (which is generous—actual savings accounts typically offer much less). Plug in your number and you’ve got:
72 / 1 = 72 years
Dividing 72 by 1, it will take 72 years for that money to double.
If you’ve invested in the stock market, let’s say your rate of return rate is around 10% (in real life, the average over decades has been a bit less). Plug in your number and you’ll get:
72 / 10 = 7.2
Dividing 72 by 10, it will take a little over 7 years for your money to double.
How does compound interest impact the Rule of 72?
The number of years can look lower than you’d expect thanks to compound interest. Instead of earning interest just on the original sum you invested, you’re actually investing your earned interest back into the lump sum, so you earn interest on that too.
With continuous compounding, that becomes interest on top of interest over years, growing your money exponentially. The power of annual compounded interest means your money is working for you, and the Rule of 72 tells you just how long it takes to do that.
Drawbacks to the Rule of 72
The fact that 72 is a neat and tidy number is exactly why it shouldn’t be used as the sole measure of potential growth. Not only is it slightly off the mark when it comes to true logarithmic calculations, it also assumes that a market will coast along, ever upwards, without any volatility. As we know from real life experiences, that’s rarely the case.
So take the Rule of 72 as a quick, easy way to get an idea of when you can hope to double your money, thanks to compound interest rates. Just don’t stake your entire financial future on it.
Bungalow is the best way to invest and manage your real estate portfolio. We work with you to identify, purchase, fill, and manage residential properties—so that you can enjoy up to 20% more in rental income with a lot less stress. Learn more about Bungalow.
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