DebtSmart.com Wednesday, October 27, 2021

Household Math: What is the real return?

by Scott Bilker
Scott Bilker Scott Bilker is the founder of DebtSmart.com and author of the best-selling books, Talk Your Way Out of Credit Card DebtCredit Card and Debt Management, and How to be more Credit Card and Debt Smart. Receive the 5-Year Loan Spreadsheet when you subscribe to his email newsletter.

I saw this question come up in a Dateline NBC piece on retirement. So here goes: You have an investment that delivers a 7% return each year. However, you are charged a 2% management fee. What is the real rate of return on your money?

Try to figure it out yourself then scroll down for the answer…

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The answer is NOT 5%. Close, but not exactly.

It’s 4.86%.

Think about it like this:

You deposit $100 in the investment.

At the end of one year, you have a 7% return. That’s $7. Now your account balance is $107.00.

But now those investment managers take their 2% from the $107.00, which comes out to be $2.14.

That leaves you with $104.86 or a 4.86% return for the year.

A more straightforward solution is: Rate of Return = (1+0.07)(1-.02)-1 = 0.0486 = 4.86%

Please comment below, and let me know if you got it or if it was too hard, too easy, etc.