When financial planning, we tend to think of money as having roughly the same value today and tomorrow. While inflation will reduce the value of the dollar over the long-term, most of us tend to feel that $100 today will be pretty much the same thing as $100 a year from now. That’s actually not true. The principle of the time value of money proves that cash in hand today is worth more than cash in hand later.
There are several factors that affect the value of your money now and over time. $100 in hand today, properly invested with an interest-bearing method, will offer immediate growth. However, inflation will decrease the value of money in the future. Even with just 1.05% interest, your $100 is worth $105. The same amount a year from now would be worth less than $100 because of inflation.
Understanding the time value of money will have an immense impact on your financial life in a variety of areas, including:
The impact of the time value of money on each of the six areas above should be relatively clear. For instance, by investing money now in an interest-bearing vehicle, you’ll be able to build more money for the future. Retirement planning is a prime example of this – investing even a few years earlier can provide tens of thousands of dollars more for your retirement than would be possible if you waited even a short time. Interest is earned, and then compounded. Eventually, your interest begins earning interest and building your retirement nest egg, exponentially growing even a modest initial investment.
At Baker DMM, we specialize in daily money management for clients of all ages and from all walks of life. Whether you’re already retired, or are just getting out of school, we offer peace of mind and financial security through a range of options and education tools to help you and your financial life.