Power of Compounding: How your Rs 1.20 lakh can grow into Rs 62.15 lakh, know calculation

Power of Compounding: Many extraordinary investment options that help you get extremely high returns may appear ordinary if you deduct compound interest from them. In fact, some of them may turn into negative returns if adjusted against inflation. That's the power of compounding that helps grow your income many times in the long run.

Nobel Laureate physicist Albert Einstein once called compound interest the world's eighth wonder.

No wonder if it helps grow your wealth faster when your investment turns older.

Also Read | Power of Compounding: Total investment Rs 38.40 lakh, interest in 1 year Rs 41.63 lakh! How it is possible; know calculations

Public provident fund (PPF), equity-linked mutual funds, equity-linked saving schemes (ELSS), life insurance savings plans, and fixed deposits are some of the investment schemes offering compound interest.

Before we move to the calculation section, let's understand how compound interest works.

What is compound interest?

Compound interest is the interest accumulated on a deposit from the principal amount and accumulated interest.

It works as a snowball process where your interest is added to the principal every month, quarter, or year, and for the next cycle, you get interest on the sum of the principal and interest.

If invested for a long time, compound interest can do wonders for you, as the interest you will receive will be much greater than the principal amount you invested.

E.g., if you invest one-time Rs 120,000 in an equity that gives you 12 per cent average returns a year.

At the end of the first year, you will get Rs 14,400 interest on it, and your total balance value will be Rs 134,400.

But for the second year, this Rs 134,400 will become your principal amount, and you will get an interest of Rs 16,129 on it.

So your total balance value at the end of the second year will be Rs 1,50,529, and the cycle will go on.

AR Hemant, AVP, Bankbazaar.com, says, "The trick to wealth creation is quite simple: invest small amounts every month in an appreciating asset consistently, and over time it becomes a sizeable fortune. Mutual funds provide an accessible, simple, transparent marked-to-market investment option for Indians to create astronomical wealth this way. ₹5000 invested in an equity SIP generating 12% annual returns becomes ₹4.12 lakh in 5 years, ₹25.22 in 15 years, ₹94.8 lakh in 25 years, and ₹3.24 crore in 35 years. In this period of 35 years, your first SIP instalment of ₹5000 would grow to 2.64 lakh—a 52x growth. All you need is time to let the power of compounding do its trick."

In this write-up, we will tell you how withdrawing investment just for a few years can multiply your wealth.

Compound Interest: Scenario 1; How Rs 1.20 lakh will become Rs 62.15 lakh

In scenario one, we will invest one-time Rs 120,000 in an equity-linked programme that will deliver a 12 per cent average return per year.

Suppose you start investing at the age of 30 till the retirement age of 60. At the end of 5 years, your Rs 1.20 lakh investment will become Rs 2,11,482, where Rs 91,482 will come only through compound interest. 

At the end of 10 years, your Rs 1.20 lakh investment will turn into Rs 3,72,702, out of which Rs 2,52,702 will be the interest money.

At the end of 15 years, your investment will swell to Rs 6,56,828, of which Rs 5,36,828 will be the total interest. 

The effect will be more evident in 20 years when- 

Your total balance value will be Rs 11,57,556, of which Rs 10,37,556 will be interest.   

In 25 years, your Rs 1.20 lakh will become Rs 20,40,008 and the interest amount in it will be Rs 19,20,008.

Since you had started investing money at 30 and your retirement is 60 years, in the 30th year of your investment, the total balance value will be Rs 35,95,191 and Rs 34,75,191 will be the compound interest.

So, your Rs 1.20 lakh invested now will grow by nearly 29 times in 35 years through compound interest.

At the retirement age, you can withdraw money to enjoy your post-retirement life.

Suppose, if you have enough resources to run your daily expenses at 60, don't need retirement corpus through Rs 1.20 lakh one-time investment, and you extend withdrawal for another five years-

At the end of the 35th year of your investment, your total balance value will be Rs 63,35,955, of which Rs 62,15,955 will come only through interest. 

What we see here is that delaying your withdrawal by just 5 years (from the 30th to the 35th year), your wealth will grow from Rs 35.95 lakh to Rs 62.15 lakh, or over 72 per cent.

The longer your investment duration, the more your wealth grow through compound interest.

Compound interest: Scenario 2; How to get Rs 5.09 crore in interest

In the second scenario, we don't make one-time investment of Rs 1.20 lakh.

Rather, we go for an SIP investment of Rs 10,000 every month for 30 years.

Here is how your investment will pan out in 5, 10, 15, 20, 25 and 30 years.

In 5 years, your investment will be Rs 6 lakh, your total balance will be Rs 8.11 lakh, including an interest of Rs 2.11 lakh. 

In 10 years, you will invest Rs 12 lakh, while your return will be Rs 22.40 lakh, which includes Rs 10.40 lakh as interest.

In 15 years, your investment will be Rs 18 lakh, the total return will be Rs 47.59 lakh with an interest of Rs 29.59 lakh.

The compound interest will show more impact after 15 years.

In 20 years, your investment of Rs 24 lakh will grow into Rs 91.99 lakh, including an interest of Rs 67.99 lakh. The total return at this stage is nearly four times of your invested money.

In 25 years, your Rs 30 lakh investment will become Rs 1.70 crore, translating into over 5.5 times return, including an interest of Rs 1.40 crore. 

In 30 years, your investment will be Rs 36 lakh, the return will be Rs 3.08 crore, over 8.5 times of investment, including an interest of Rs 2.72 crore.

At this stage, your compound interest also almost gets double from investment of 25 years (Rs 1.40 crore) to 30 years (Rs 2.72 crore).

After 30 years of investment, you will be 60 and can withdraw your investment to enjoy post-retirement life.

But if you stick to investment for another five years, compound interest will grow your wealth exponentially.

After 35 years, your investment will be Rs 42 lakh, while your total return will be Rs 5.51 crore, more than 13 times of the invested money.

Your total interest at that stage will be Rs 5.09 crore.

What is even more interesting is that just in your 35th year, you will get Rs 58.98 lakh only as interest, which will be much higher than your total investment of Rs 42 lakh in 35 years.