Passive Investor Tips is a weekly series hosted by full-time passive investor and Best Ever Show host, Travis Watts. In each bite-sized episode, Travis breaks down passive investor topics, simplifying the philosophy and mindset while providing tactical, valuable information on how to be a passive investor.
In this episode, Travis explains the rule of 72, which helps investors to predict approximately how long it will take them to double their money in an investment. He provides the formula and shares why the rule of 72 is important for both active and passive investors, providing examples to illustrate how it’s used. He also invites listeners to reach out to him on social media for access to his free financial independence calculator.
1. The Significance of the Rule of 72
Many investors struggle with trying to calculate how long it will take them to reach their end goal, whether they are planning for retirement, financial independence, or simply trying to obtain a certain net worth. Using the rule of 72 is a simple way to determine how far you have to go.
2. The Formula
To use the rule of 72, first determine the annual yield that your particular investment produces. Then, divide the number 72 by the annual yield. For example, say you invested in a piece of real estate and your cash flow yield on an annualized basis is 8%. 72 divided by 8 equals 9. This means that, according to the rule of 72, it should take approximately nine years to double your initial investment.
3. The Financial Independence Calculator
Travis has created his own financial independence calculator using an Excel sheet. Using this calculator, you can plug in how much you would like your net worth to be when you retire and how much you plan to withdraw every month. There are several factors you can experiment with to determine whether your plan will allow your net worth to increase indefinitely, or when you will effectively run out of money.
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Travis Watts: Welcome back, Best Ever listeners, to another episode of Passive Investor Tips. I'm your host, Travis watts. Today's episode is exciting. We're talking about the Rule of 72, which is how to double your money. Disclaimers, as always - I'm not a financial advisor, this is not financial advice. This is educational purposes only. With that top of mind, this is going to be a shorter episode, but this is a critical and fundamental concept to understand. As an investor, whether you're active or passive, when it comes to cash flow or passive income investing, the rule of 72 can be extremely useful. It's essentially, in simple terms, I'll just cut right to the chase, it's how to measure how long it will take to double your money. So you simply divide 72 by the annual yield that your particular investment produces.
For example, if you purchased or invested in a piece of real estate, and your cash flow yield on an annualized basis is 8%, you take 72, divide it by eight, and that equals nine. And what that means is it'll take about nine years to double your initial investment. And the reason that the Rule of 72 is so important is that a lot of investors struggle with trying to calculate how long it's going to take to get to their end goal, whether that end goal means retirement, or financial independence, or you just say, "Hey, I want a million dollars in the bank, or a million dollar net worth." So the question is, how long will that take you? So let's use the Rule of 72 to figure out that answer.
So let's say you're starting with $100,000, you go invest that fully into either one or multiple investments that average a 10% annualized yield. So we take 72, divide it by 10, that equals 7.2. So in about 7.2 years, you will have effectively doubled your initial investment. So that 100k just turned into 200k. Now, obviously, we're not factoring in taxes. This is a macro-level calculation, just a high level to give you kind of a guide, if you will, to see how long it's going to take you to get somewhere.
So let's continue this strategy. Say that now we take our $200,000 and we go do a new deal with a 10% yield. The reason I'm saying 10% is just simple math. I'm not very good at math, so this is how I can keep it together on an episode like this. So 7.2 years later, now we're at 400k, right? We're 14 years into investing, and we've turned 100k into 400. So rinse and repeat. We do it again. 10% yield, 7.2 years later, so now we're at 21-22 years into this. So now we're working with 800,000. We go do another investment, same scenario, rinse and repeat. Now, about three years into this cycle, we're going to meet or exceed the $1 million mark.
So using that example, 10% total annualized return, it'd take you roughly 25 years to turn 100k into a million. Now, a couple of things I want to point out about this example. One, the Rule of 72 in the example I just gave is not factoring in any potential equity upside. So if you did do a real estate investment, and you were able to capture a 10% cash flow yield, let's say you sold the deal; now you had some equity upside. That 10% could turn into 20% IRR or annualized return. If that were to be the case, then it would effectively take you half as long to reach your million dollar goal, or roughly 12 and a half years. So something to keep in mind depending on the type of investing you are doing.
And number two is, as I mentioned earlier, we're not including any taxes; that's too complex. Everybody's in different tax brackets and different states, and I'm not a CPA, and I don't want to get lost in the weeds with this concept... So just factor that in as well as you're running your math. This is never promises or guarantees. This is just something to think about as a guide, again, as you go do your investing.
Break: [00:07:11.07] to [00:08:14.10]
Travis Watts: As a passive investor myself for many years, primarily focused on passive income exclusively, I've found this tool to be extremely helpful. And on a related note, I want to let you guys know that just for my own sake of entertainment, I've created an Excel sheet - I called it a Financial Independence Calculator - where you can actually play around, it's got a cool little graph in the upper right, and you can plug in your expected retirement age, or when you would like to retire; you can plug in how much you'd like to have as a net worth. At that point, you can choose how much to withdraw every month, or how much passive income to live on.
And the chart in the upper right is pretty cool; it's going to show you one of two things. It's going to show you either an uptrending bell curve, so it's going to show that even though you're withdrawing money or you're living on a portion of your income, your net worth is still going to increase indefinitely. Or you're going to have a descending curve and it's going to show you exactly at what age you would effectively run out of money. You can play around with all kinds of factors - how much you want to withdraw, what the inflation rate might be... All kinds of stuff.
So if you want that calculator, if you'd like to geek out like I do on this kind of stuff, I'm happy to give it to you. No upsell, no opt in, no sales pitch, nothing like that. Just direct message me on social media, Travis Watts on LinkedIn or Bigger Pockets, or Passive Investor Tips on Instagram and Facebook.
With that in mind, I hope you guys found some value in this very short episode; you're listening to Passive Investor Tips, where we discuss investing passively different strategies, different tools and different tips on how you can reach your financial independence goals. Like, subscribe, comment, feel free to share these episodes with anyone you think might find value in them, and we'll see you on the next episode. Have a Best Ever week everyone.
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