Rule of "72" And Your Score

Discussion in 'Credit Talk' started by Butch, Dec 17, 2002.

  1. Butch

    Butch Well-Known Member

    I felt that this discussion was needed badly. So I put this together, rather hastily I might add, so I could at least get the info. out to YOU. Some of you know this but most do not. But ALL of us should be aware of this info. It's for those folks who've never been taught this stuff and would never know it if someone doesn't point it out.

    I hope, even in my haste, that the concept gets across ok. BTW - Sorry for the formatting.


    In 1974 the FTC issued its findings on the Whole Life Insurance industry's favorite product, Whole Life Insurance. The commission found, after 3 years of exhaustive study, that the average Whole Life Insurance Policy paid a whopping 1.3 to 1.7%, with an average of 1.44% interest.

    As a result the insurance industry designed what is today known as Universal Life Insurance. This "new" product was designed to solve the problems pointed out by the FTC investigation (It doesn't, but that's another topic), and aid the Companies in "retaining" their customers, and thus their revenue.

    The enormous shift of money from Whole Life Insurance over to Universal Life Insurance ensued.

    Millions and Millions of angered consumers dropped out of the old ins. and went to the new ins. which paid (at the time) 12% - 15%.

    It was labeled the MOST MASSIVE TRANSFER OF MONEY IN THE HISTORY OF THE HUMAN RACE.

    TRILLIONS of dollars over the next 15 years were moved from the "old" kind of life insurance to the "new" kind.

    I point this out because this represents the incredible battle going on between consumers and industry. Today, their is another war underway that would absolutely DWARF this 1974 stampede.

    Every creditor in business is hell bent on charging you the HIGHEST possible interest rate they can in order to "acquire" your hard earned money. Your job is to demand the lowest possible rate you can get. Make no mistake, WWIII is well under way, and the battle is over money, YOUR money.

    In my training, I remember seeing a video replay of a news conference, interviewing Albert Einstein. In the old rustic black & white replay of the 1947 interview several reporters asked the Professor, "Dr. What is the most powerful force on earth"? All the microphones from the reporters went into his face. All were expecting him to say something about Nuclear Fusion or something. You could hear a pin drop. But nope, his reply was:

    "COMPOUND INTEREST".


    Could that be true? Lets take a look.

    There is, in the financial planning world, a mathematical equation called the "Rule Of 72". In short, the definition of the Rule Of 72 is: If you divide the interest rate your getting into 72 it will tell you how long (in terms of the number of years) it takes money to double. $1 becomes $2. $2 becomes $4. $4 becomes $8, etc, etc..


    Continued ...
     
  2. Butch

    Butch Well-Known Member

    Now we are in position to discuss the ramifications of how interest rates work. As an example, lets suppose, for a moment, we have Mary, a 23 year old young lady who inherits $10,000 from her now deceased Aunt Minnie. Lets look at what happens as she puts her money into 4 different accounts, paying 4 different interest rates.


    Bank #1 Pays 3%. (3% divided into 72 = 24 yrs.) Meaning her money will double every 24 years; like so:

    Age 23 = $10,000
    24 yrs. Later
    Age 47 = $20,000
    24 yrs. Later
    Age 71 = $40,000

    Well ... Mary is now 71. That's not a very good return, to say the least.


    Bank #2 Pays 6%. (6% divided into 72 = 12 yrs.) Money doubles every 12 years; like so;

    Age 23 = $10,000
    12 yrs. Later
    Age 35 = $20,000
    12 yrs. Later
    Age 47 = $40,000
    12 yrs. Later
    Age 59 = $80,000
    12 yrs. Later
    Age 71 = $160,000

    Much better. Mary is still 71, but with 4 times more money.


    Bank #3 Pays 12% (12% divided into 72 = 6 yrs.) Money doubles every 6 years; like so;

    Age 23 = $10,000
    6 yrs. Later
    Age 29 = $20,000
    6 yrs. Later
    Age 35 = $40,000
    6 yrs. Later
    Age 41 = $80,000
    6 yrs. Later
    Age 47 = $160,000
    6 yrs. Later
    Age 53 = $320,000
    6 yrs. Later
    Age 59 = $640,000
    6 yrs. Later
    Age 65 = $1,280,000
    6 yrs. Later
    Age 71 = $2,560,000

    Now we're talkin :)

    Continued ...
     
  3. Butch

    Butch Well-Known Member

    But suppose Mary could get 19% (19% divided into 72 = 3.79yrs.) Money doubles every 3.79 years; like so;

    Age 23 = $10,000
    3.79 yrs. Later
    Age 26.79 = $20,000
    3.79 yrs. Later
    Age 30.58 = $40,000
    3.79 yrs. Later
    Age 34.37 = $80,000
    3.79 yrs. Later
    Age 38.16 = $160,000
    3.79 yrs. Later
    Age 41.95 = $320,000
    3.79 yrs. Later
    Age 45.74 = $640,000
    3.79 yrs. Later
    Age 49.53 = $1,280,000
    3.79 yrs. Later
    Age 53.32 = $2,560,000
    3.79 yrs. Later
    Age 57.11 = $3,120,000
    3.79 yrs. Later
    Age 60.90 = $6,240,000
    3.79 yrs. Later
    Age 64.69 = $12,480,000
    3.79 yrs. Later
    Age 68.48 = $24,960,000
    3.79 yrs. Later
    Age 72.27 = $49,920,000



    The most powerful force on earth? When you were in school didn't you think, (you may even STILL think) that if you get twice as much interest on your savings you'd have twice as much money? Makes sense right?

    Not so. Looking at Banks #2 & 3 (6% vs. 12%, respectively) we can illustrate the folly of this assumption and the shear magnitude of Dr. Einsteins proclomation.

    At 6% we have $160,000 at age 71. Twice as much would be $320,000, right?

    Well ... Bank #3, paying 12% (twice as much as 6%) yields $2,560,000. That's a difference of $2,400,000. Meaning YOU were over 2 MILLIONS DOLLARS OFF!

    Make no mistake. Compound Interest IS the most powerful force on earth.

    Continued ...
     
  4. Butch

    Butch Well-Known Member

    In our analysis we see that in the same 48 year period, money doubles at;

    3% - 2 times
    6% - 4 times
    12% - 8 times
    19% - 13 times


    BUT HERE'S THE PROBLEM

    The above example is for Mary who is trying to SAVE her money, like any smart young lady would. But ... AND THIS IS THE BIG BUT ... just as surely as compound interest can work IN YOUR FAVOR, it can also WORK AGAINST you. The raw power behind this equation needs to be fully understood.

    IF YOU OWE MONEY (as opposed to saving it) AND BEING CHARGED THESE INTEREST RATES IT CAN COST YOU EVERYTHING YOU OWN TODAY, AND MAYBE EVERYTHING YOU EVER WILL OWN!

    My MBNA CC charges me 1.7% for the first year.
    Providian has gone as high as 29.99%.

    (Divide 29.99% into 72. Now double it for 48 years. What's YOUR answer?)


    Folks the rule of 72 and the astonishing ramifications of high interest rates explains;

    1) Why there is an enormous conspiracy between CRA's and creditors to TRASH your score, so that the highest possible interest rates can be charged, yielding the highest possible profits for the creditors, (the CRA's customer base).

    2) Why, once you get far behind in your debt, the interest rates are like freight trains and will SOON run over you if your not careful.

    3) Why so many Bankruptcies occur where people say: "I don't understand it. We just got a little behind with our CC's and the next thing we knew, here we are in BK".

    4) Why YOU need to be extremely aware of the math that can either work in your favor or work against you, possibly driving YOU straight back into credit hell from whence you came.

    One can see the incredible difference between, for example MBNA charging 1.7% yields XX dollars, and Providian, charging 19% yielding 10,000 times more profit from their loan portfolio.

    1) So, fight your way into prime territory as soon as you can.
    2) Keep those high interest debts under control.
    3) Figure out a way to make extra money if you can. Use it to pay down your debt and then use it to invest wisely.

    Hope this helps.

    :)


    >>> Ok I'm Done <<<
     
  5. Butch

    Butch Well-Known Member

    So lets have some fun. Providian charges as much as 29.99%.

    29.99% divided into "72" = X

    $10,000 doubles X times in 48 years.

    How much does $10,000 turn into at 29.99%? What's your answer?



    Now we can see whay it's important for THEM to keep your score as low as possible.

    :)
     
  6. islandboy

    islandboy Well-Known Member

    Butch,

    Another excellent article you have written. This is great information to know. This is the stuff kids should be taught in grade school, not just us folks here at Credit Net.

    I am sure this info you shared with us will make it into some writers articale someday, I just hope he/she give you credit for it.

    Thanks for sharing your wealth of knowledge again!
     
  7. marci

    marci Well-Known Member

    Nice post, Butch!
     
  8. fla-tan

    fla-tan Well-Known Member

    Butch

    As usual, great information. I use the "rule of 72" virtually daily in my businesses. However, I have one question for you. Isn't interest paid out calculated using the "rule of 78" which is similar to the "rule of 72" except you divide interest paid into 78 to determine how long it takes for you to pay out 100% of the money you borrowed.
     
  9. chmod444

    chmod444 Well-Known Member

    Bravo, Butch, thanks for an informative thread.

    Here's another interest example which might have some direct bearing on the situation of many creditnetters.

    Consider a credit card with 18% interest, and a $3,000 balance. Consider that this bank calculates the minimum monthly payment at 2% of the balance (in this case, $60).

    Just paying the minimum (I know you've all heard this part before) will end up taking you 37.5 years to pay, and will cost a total of $10,930.60 ($7,9360 in interest alone).

    BUT ... here's the part that really interested me the first time I saw it: It can be very difficult to pay much more than the minimum, especially on a tight budget -- but if you can resign to paying just 50% more ($90 instead of $60 in this case; $1 extra a day), you'll pay off the debt in LESS THAN FOUR YEARS, and it will cost you a little over $1,000 in interest.

    Paying $1,000+ in interest on $3,000 is no great bargain, but it's certainly better than the alternative. So the difference between 37 years to pay the debt and 4 years is just $1 a day for this very real scenario.

    I've found this example a great motivator, since I'm not in any position to be able to fully pay off my balances, this really keeps me focused on paying more than the minimum every month.
     
  10. javan

    javan Well-Known Member

    Butch, all BULLSH** aside(excuse my language), I think this may be the most informative article I have read in a LOOONG TIME!!! BRAVO, and thank you for sharing.
     
  11. Memo

    Memo Member

    You get this training trough Citigroup, or Primerica? I have the same information and haved used it to my advantage.
    Thanks for posting it up for people so everyone can use this. People this knowledge is priceless, use it and pass it on =p
     
  12. christi523

    christi523 Well-Known Member

    Butch,
    Excellent thread! Thanks.
     
  13. Calypso

    Calypso Well-Known Member

    Hey Butch--

    Great idea to point this out, but it is actually the
    rule of 78.

    Also known as the sum-of-the-digits method, the Rule of 78s gets its name from the sum of the digits one through 12 -- the number of months in a year.

    http://www.bankrate.com/brm/news/auto/20010827a.asp

    cheers--

    C
     
  14. lbrown59

    lbrown59 Well-Known Member

    Great idea to point this out, but it is actually the
    rule of 78.
    Calypso
    ========================
    Butch is right:
    He is talking about the rule of 72 which is entirely different from the rule of 78.

     
  15. chmod444

    chmod444 Well-Known Member

    Yes, Butch is right. It's the rule of 72.

    -------------------------
    From:
    http://invest-faq.com/articles/analy-rule-72.html
    --------------------------

    The "Rule of 72" is a rule of thumb that can help you compute when your money will double at a given interest rate. It's called the rule of 72 because at 10%, money will double every 7.2 years.

    To use this simple rule, you just divide the annual interest into 72. For example, if you get 6% on an investment and that rate stays constant, your money will double in 72 / 6 = 12 years. Of course you can also compute an interest rate if you are told that your money will double in so-and-so many years. For example, if your money has to double in two years so that you can buy your significant other that Mazda Miata, you'll need 72 / 2 = 36% rate of return on your stash.

    Like any rule of thumb, this rule is only good for approximations. Next we give a derivation of the exact number for the case of an interest rate of 10%. We want to know how long it takes a given principal P to double given either the interest rate r (in percent per year) or the number of years n. So, we are solving this equation:

    P * (1 + r/100) ** n = 2P
    Note that the symbol '**' is used to denote exponentiation (2 ** 3 = 8). Since we said we'll try the case of r = 10%, we're solving this:
    P * (1 + 10/100) ** n = 2P
    We cancel the P's to get:
    (1 + r/100) ** n = 2
    Continuing:

    (1 + 10/100) ** n = 2
    1.1 ** n = 2

    From calculus we know that the natural logarithm ("ln") has the following property:
    ln (a ** b) = b * ln ( a )
    So we'll use this as follows:
    n * ln(1.1) = ln(2)
    n * (0.09531) = 0.693147
    Finally leaving us with:

    n = 7.2725527
    Which means that at 10%, your money doubles in about 7.3 years. So the rule of 72 is pretty darned close.
    You can solve the equation for other values of r to see how rough of an approximation this rule provides. Here's a table that shows the actual number of years required to double your money based on different interest rates, along with the number that the rule of 72 gives you.


    % Rate Actual Rule 72
    1 69.66 72
    2 35.00 36
    3 23.45 24
    4 17.67 18
    5 14.21 14.4
    6 11.90 12
    7 10.24 10.29
    8 9.01 9
    9 8.04 8
    10 7.27 7.2
    .. .. ..
    15 4.96 4.8
    20 3.80 3.6
    25 3.11 2.88
    30 2.64 2.4 (note: 10pct error)
    40 2.06 1.8
    50 1.71 1.44 (note: 19pct error)
    75 1.24 0.96
    100 1.00 0.72 (note: 38pct error)
     
  16. Butch

    Butch Well-Known Member

    WOW! lol

    I was in this business before Primerica came along but yeah, this is the stuff we taught.

    Remember Art Williams? A.L.Williams Corp.?

    I was an RVP way back in the good old days, 1984 until he sold out to Primerica. Primerica ruined everyones contract so we all quit.

    Geez, the good old days.

    :)

    BTW - My old buddy Harley Smith in Columbus was the only RVP that hung on through all the sell out turmoil. He captured ALL the business in the state of Ohio. His renewal check is 1 Million Dollars MONTHLY.

    See ... just goes to show ya, I shoulda hung in there.

    LOL
     
  17. humblemarc

    humblemarc Well-Known Member

    Butch,
    I had to laugh as I was reading your post. . . I was online as you were posting it. . . . I felt like i was taking a series 6 again! and then I thought "everyone already knows this stuff". . . but then i remembered, wait, that's because i show my clients this every other day. ;-)

    1 million in overrides huh? Not bad. Did i ever talk to you about how you could be that guy in Ohio for my company. . .
     
  18. Butch

    Butch Well-Known Member

     
  19. humblemarc

    humblemarc Well-Known Member

    LOL,
    i thought i'd try again... glad to see you're doing well in the business ;-)

    you are exactly right, not many people DO know or understand this principle, but once they do, they realize the "need" to start investing and regularly putting away money for retirement.

    Will next week's class be the value of a VL policy or annuities? ;-)
     
  20. lestx

    lestx Well-Known Member

    Butch, outstanding.I have been trying to explain this to my credit hungry 18 year old for a long time.

    Thanks, I am forwarding this to her today.

    Lestx.
     

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