Congratulations, you’re a millionaire, and you found this site by asking Google: How much interest do you earn on a million pounds?
How did you make a million pounds? Perhaps:
- You won the lottery
- You robbed a bank
- You sold a small terraced house in central London
- You married someone who owned a large terraced house then you got divorced
- Maybe you invested your way to a million?
So how much interest do you earn on your million pounds?
Well, it depends. Let’s see how.
Earnings on a million pounds if kept in cash savings
Let’s assume you found a bank you could trust with your million pounds, and you tucked the £1 million away.
Remember: Due to the bank runs that started with Northern Rock, it’s better to have several bank accounts, each with no more than the guaranteed £50,000 compensation scheme limit in the UK.
The factors that will determine how much you will earn on your million pounds are:
- The interest rate
- How long you save it for without withdrawing any money
- Whether you are paid interest daily, monthly or annually
1. What is the interest rate?
The higher the interest rate, the more your £1,000,000 will earn you in a year:
- A 4% interest rate paid annually will earn you £40,742
- A 6% interest rate paid annually will earn you £61,678
Over one year, the maths is not surprising. Keep your million safe and untouched for 30 years though and even a 2% difference will have a huge consequences, as we’ll see below.
2. How long will you wait before withdrawing any money?
The longer you leave your million untouched, the more money you’ll have at the end. This is due to compound interest, which really increases over long periods of time.
- Compound interest means you get interest on your interest
The longer you leave your money untouched, the more the interest rolls up and grows, as you get interest on the original interest, and then interest on the interest ON the original interest, and so on.
We’ll see the difference it makes below.
3. How often is the interest worked out and paid?
The interest due on your headline annual interest rate of, say, 4%, can be calculated and paid by your bank on a daily, monthly or annual basis.
Having smaller amounts of interest paid more regularly is better than having a once-a-year lump sum. I’ll assume below that your interest compounds monthly, as this is the most normal in my experience.
So, how much do you earn on a million pounds?
First, let’s assume an interest rate of 4%, compounded monthly.
Your million pounds will have earned:
1 day: £110
1 month: £3,333
1 year: £40,742
5 years: £220,997
10 years: £490,833
20 years: £1,222,582
30 years: £2,313,498
What about a higher interest rate of 6%, compounded monthly?
1 year: £61,678
5 years: £348,850
10 years: £819,397
20 years: £2,310,204
30 years: £5,022,575
Lessons for millionaire readers (and the rest of us)
These results show two things:
- A small difference in the interest rate makes a big difference
- Compound interest can grow your money by a huge amount over time
To illustrate the first point, look at the amount earned after 20 years – the 6% account has earned almost twice as much as the 4% paying account. That’s a huge difference from such a seemingly tiny 2% difference.
As for the second point, look at the amount of money you have after 30 years at 6% interest – £5 million! Remember, you’d have your original £1 million, too, which means you’d have over £6 million to your name.
I remember the first time I encountered compound interest – I was reading an article exactly like this one I’ve just written, but in a magazine in a newsagent rather than on a PC screen. I almost dropped the magazine in shock. The ability of money to roll up like this still seems to me the most amazingly motivating thing about saving and investing.
Another example – if you were a 20-year old singer who recorded one hit single tomorrow, topped the charts, made a million then stuck your money in the bank at 6% and resisted the temptation to spend it on wine, women and designer jeans, you could retire at 65 with nearly £14,000,000!
The bottom line: Working out how much you will earn on a million is a nice problem to have.
P.S. Can you live off one million pounds?
What if you tried to live off the annual earnings of that million rather than letting it build up?
Things would be rather bleaker. The most you’d ever earn is the annual interest – £40,000 a year from the 4% interest rate. Nice, but it’s hardly going to fund a millionaire lifestyle. Your million would never get compounded because you’d always be spending the interest.
You’d also have to pay tax on your interest. Tax varies around the world, but in the UK you’d pay between 20 and 40% tax on most of that income. (One reason why it pays to start saving in an ISA).
Worse, inflation will reduce the buying power of your £1,000,000.
Inflation, which tends to run at about 2-3% a year, would make both your million and the earnings on it worth less in real terms over time.
You’d still be earning £40,000 in 20 years on your million pounds, but it would buy less stuff. All other things being equal, you’d be able to afford far fewer bottles of wine or designer jeans.
Inflation is the main reason why living of the interest of a million pounds is not very realistic. You’re better off spreading your million between various income producing assets such as cash, bonds, dividend-paying shares, and property that you rent out.
From moment you diversify into these ‘real assets’ your net worth will fluctuate in value, which can be painful, especially in a down market. But your investment income should be inflation-protected over the long-term.
There are also various tax benefits from dividend income compared to cash savings. Obviously this sort of thing requires specialist financial advice, but there’s no harm dreaming in advance!
Not got your million pounds yet? Read on to discover (how hard it is to) make a million by saving and investing.
{ 10 comments… read them below or add one }
very interesting read, really easy to understand which makes a nice change
You should do a comparative article comparing compound interest, the stock market, and gold – to see which would have earnt more (in say the last 10 years). That would be very interesting
@Chris – take a look at this article on historical asset class returns.
I pretty much know the answer to your question from the top of my head (sad I know…) Gold would have been best, followed by cash, followed by equities.
The noughties was a truly terrible decade for the stock market, but understand that makes it *more* not less likely the next decade will be better.
Thanks for this post. I was looking for quite a while for someone to simply explain to me how the interest in savings accounts works and no one else explained it as well as you.
I guess the first principle is not to put all your eggs in one basket. You should split it into various pots to spread the risk of something going wrong.
Talking about risk, you also need to decide your attitude to risk. Risk and reward go hand in hand. My own view would be to have one or two high-risk pots, one or two low risk, and the other six as medium-risk.
The other thing you need to decide is your investment timescale. If it’s a retirement fund and you’re in your 20s, it’s a completely different game to if you’re in your 60s.
Having said all this, at present inflation-proofed investments and property look good to me, although I’d stay out of the domestic property market for a year or so until prices bottom out.
But as you say how to invest a million is a nice problem to have
Nice article, answered my ‘curious’ mind so I know now when I make my first million, just how to live off the annual interest.
But NOT by selling 2nd hand cars!
(-;
All good – apart from this – “retire at 65 with nearly £14,000,000″.
I’d say that’s bad advice — live off the interest. Enjoy your life while you are young. £40k a year is enough to do almost anything you want — especially when you think – you won’t be at work 9-5 for that money — it’ll come to you whatever you are doing – wherever you are.
Why spend your life working – so you can have £14m when you are 65 – too old to really start any big project, or worse, only be able to use that £14m to pay for your health care, like paying for a room in a specialist dementia nursing home.
If you are lucky enough to have £1m in your bank – live off the £40k – any you don’t spend – let that become your compound interest.
@Samn — Thanks for your comments. I wouldn’t say it’s bad “advice”, it’s just an observation. I am forever reading about one hit wonder pop stars and reality TV show contestants back stacking shelves at Tesco or similar. So I was simply pointing out what they forgo in a spend spend spend frenzy.
Personally I’d use the one million to replace my formal salary, similar to what you suggest except I’d do it via a very diversified portfolio that will hopefully keep my capital intact after inflation. I’d then do a variety of interesting jobs, or possibly try to build up Monevator into a big site as may do job, or similar.
I went through a period of not working and living off savings. It was incredibly boring and demotivating after the first couple of weeks. I’m not sure I’d do it at 65 now, let alone in my mid-30s when I did give it a go, and certainly not as our 20-something one-hit wonder.
Financial freedom is brilliant. No motivation points the way to the grave, for me at least.
Cheers for stopping by!
i am about to be made redundant with a pension of around £9500 and
a lump sum of around £55,000 to invest. with no prospect of finding a job i will need an income off my savings. what will be the best and safe place to invest. also what tax will i have to pay?
@Fred — Sorry to here about your job loss. I’m afraid I can’t give individual advice, for both legal and ethical reasons.
What I will say is the only thing that is “safe” to invest is cash. Everything else involves risk. (Cash involves interest rate risk (your income goes up and down) and the risk of devaluation through inflation, but in terms of guaranteeing its cash value, there’s only cash).
For this reason, investors seeking an income generally have to move along the risk scale, diversifying their portfolios to try to manage down the overall risk, but there certainly being no guarantees.
Here’s my best article on how to invest across the assets for an income:
http://monevator.com/2008/02/15/try-saving-enough-to-replace-your-salary/
Here’s an article on having an emergency fund, which you must earmark some of your cash for in my view:
http://monevator.com/2009/10/01/emergency-funds-the-ten-essential-steps/
Here’s HMRC’s page on taxes on income:
http://www.hmrc.gov.uk/incometax/basics.htm
Please do keep reading around the site, as we’ve covered tons of stuff — here’s our archive:
http://monevator.com/archives-2/