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 £75,000 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 do realize it’s hard to earn an interest rate of even 4% on your cash these days, because interest rates have been very low for years. However if you’re prepared to take a bit more risk with your money, you can still earn over 5% with peer-to-peer lenders such as RateSetter or Zopa.
(You can get the equivalent of 14% on £1,000 with RateSetter once you know about a neat bonus offer.)
Compound interest makes it possible
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 can also be tax benefits with these alternatives to earning interest on a million pounds in cash. 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.