How Compound Interest Can Help You Retire a Millionaire -- Even on a Modest Income

Key Points

• Most anyone can retire a millionaire even by saving just a few hundred bucks per month.

• Starting as early as possible in life is the key.

• Everyone who invested their way from nothing to a seven-figure nest egg remained committed to the process… even when they were discouraged by how slow it was going.

• The $23,760 Social Security bonus most retirees completely overlook ›

Does it seem like your monthly bills have grown a far more than your monthly income has over the course of the past few years? If so, you're not alone. Although wages have statistically kept up with the cost of living of late, most people say it certainly doesn't feel that way. There's often so little money left over these days that saving anything for retirement seems a bit pointless.

Don't slip into that mindset! As little as you might be able to put toward your retirement now and for the foreseeable future, every little bit you can tuck away here helps more than you might realize. You will eventually reach a point where it all clearly becomes worth it. It's just that this point is much further down the road than it seems like it should be.

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The good news is, after you reach this point, the growth fireworks really start. Here's the proof.

Some encouraging number-crunching

No matter how brilliant a stock-picker you might be, the fact is, time does most of the work for any long-term investor. The more of it you give yourself, the exponentially better off you are. For perspective, assuming you match the S&P 500's average annual net gain of 10% (with dividend reinvestment), a $1 investment made today in 10 years would be worth $2.59, but would be worth $6.73 in 20 years' time. And in 30 years, that $1 investment would have grown to $17.45.

This seems a bit counterintuitive, but the numbers are correct. How does your money grow so much faster later on than it does earlier? That's the power of compounding. The more money you make every year, the more money you've got working for you the following year. Eventually, this growth seems to take on a little more life of its own.

But what might this look like in more practical terms for you?

Let's again make the same assumption that you'll more or less match the S&P 500's average yearly gain of 10%. Only this time, let's also say you're going to come up with a doable modest sum of $500 per month to put toward your retirement savings, or $6,000 per year. As the graphic below illustrates, by the end of the 10th year you're sitting on about $105,000, although $60,000 of that is your deposited savings. Ugh. By the end of the 20th year though, only $120,000 of your total account balance of $378,000 reflects your contributions. After 30 years, you're sitting on nearly $1.1 million, only $180,000 of which is your sum-total deposits. The other $906,000 reflects the net growth your $180,000 worth of contributions generated over this stretch of time.

Data source: Calculator.net. Chart by author.

Again, that's the power of compounding, or achieving more and more gains due to the ever-growing amount of money you've got working for you.

Your mindset is everything

There are some important footnotes to add here, one of which is the fact that this projection -- while mathematically correct -- doesn't factor in taxes. If you're saving for retirement in a Roth IRA this won't really matter. If your nest egg is in an ordinary IRA though, it's almost sure to be taxed as it's withdrawn.

Also bear in mind that, due to inflation, in 30 years' time this $1.1 million won't be the relatively meaningful amount of money it is today. Assuming average annual inflation of 2.5%, 30 years from now $1.1 million would actually only be worth about half that amount in today's dollars.

Of course, your income and the amount of money you can save for retirement should also grow proportionally with inflation, if not more so. So, don't worry too much about this particular headwind.

Image source: Getty Images.

More than anything though, notice how long it took until the annual gains on your total investments began exceeding your annual $6,000 contribution. That wasn't until the eighth year in, and even then only barely. Then note when most of your net growth actually materialized here. Two-thirds of your total net gains of $906,000 were made in just the last nine years of this 30-year stretch.

The thing is, you had to reach that 22nd year with as much retirement savings as you possibly could. Even if it didn't seem like much at the time, there's an important multiplier effect already working in your favor by then. It's just not easy to see at the time.

The point is, don't get so discouraged that you end up saving nothing. Everyone who retires a self-made millionaire from nothing but their investments starts off this way: very slowly. They mostly became millionaires because they continued to save and invest (even if only nickels and dimes) even when it wasn't easy to do so. You can bet they were pretty discouraged at times, too. But, they entered the so-called "boom times" with enough retirement savings already in tow to make the most of them. You should aim to do the same, even if it doesn't feel like there's any point. There is.

The $23,760 Social Security bonus most retirees completely overlook

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James Brumley has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.