The Unshakeable Power of Growth

Tony Robbins talks about the effect of taxes and fees on saving capital in his latest book, Unshakeable, and I thought one example he gives in his Unleash The Power Within seminar is so remarkable, simple as it is, that I had to recreate the numbers myself to check how it works.

Say that you start with $1 on the first of January and can put your money (capital) into an investment that will double one year later. At the start of year 2 you will have $2. At the start of year 3 you will have $4. At the start of year 4 you will have $8. How much money will you have after 20 years (the start of year 21)?

You can see in the table below that doubling your money each year for 20 years will leave you with over $1 million dollars. (A 100% return every year for 20 years is completely unrealistic, but it makes the math easier to follow).

What if your money doubles each year, but at the end of the year, someone (a tax collector or a professional money manager) takes 30% of the increase in your capital. So, when your initial $1 doubles to $2, the taxman (or money manager) takes 30 cents (30% of the $1 increase, not 30% of the full $2). How much will you be left with at the end of 20 years?

Again, we can see in the table. The first year, the fee will be $0.30, leaving you with $1.70 instead of $2.

The second year, your $1.70 will double to $3.40, but the fee will be 30% of the $1.70 increase (or $0.51), leaving you with $2.89.

The third year, your $2.89 will double to $5.78, but the fee will be 30% of the $2.89 increase (or $0.87), leaving you with $4.91.

So, by the start of year 4 you will have $4.91 instead of $8 and by the start of year 5 you will have $8.35 instead of $16. This 30% tax (or fee) has essentially left you one year behind by the start of year 5.

How much will you have in this scenario by the end of year 20 (the start of year 21)?

You can see from the table that it will be less than $41,000 ($40,642.31). That 30% fee leaves you in the end with less than 4% of what you would have had had there been no fee at all.

Where did the other 96% go? If we add up the fee collected each year, it only amounts to $29,610.40. In other words, you get about $41,000, the fee collector gets about $30,000 (for a total of about $71,000) and the other 93% of the money – $978,323.29 – simply disappears because it was never in the interest-generating pile of capital.

Now this example is extreme because no investment returns 100% per year every year for 20 years and taxes on capital gains (in the US) are more like 15%, taken only when you sell the asset at the end, not 15% of each year’s gain. However, some hedge funds charge ‘2 and 20’ (2% of your total capital, plus 20% of the increase), so a more realistic example might be 10% growth per year with a 15% annual fee.

Even in that case, you end up with about 76% of what you would have had if there had been no fee, the total fee amounts to about 12% of what you would have had, and then other 12% is simply destroyed.

I guess the same principle applies to non-financial matters as well. If the work you do builds on itself over time, and 15% or 30% of your effort each year goes toward unproductive tasks, then what you are left with at the end of 20 years or so could realistically be only a very small fraction of what it otherwise could have been.

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