How much will you earn if your $1,000 investment pays a return of 6% annually in 10 years? Well, a future value of money calculator can help you figure that out.
Future value is an everyday equation used in financial analysis. It can be as simple as calculating a rate of simple interest on an investment, but it can also involve accounting for compound interest, inflation, and other variables. Individual investors can use future value calculations to analyze investment decisions and decide where they’d like to put their money. Institutional investors and banks have teams of analysts that create complicated spreadsheets to do the same thing, analyzing every micro-transaction for future profitability.
Defining the Future Value of Money
Future value (FV) is a financial equation that looks at the present value (PV) of your investment and predicts what that investment will be worth in the future. In order to calculate FV, at a minimum you’ll need:
- The present value (PV) of your investment
- The rate (r) of interest on your investment
- The time (t) that you’ll leave your investment to appreciate
You’ll also need to know whether your investment will generate simple or compound interest. With simple interest, your interest payment is calculated solely on the starting value of your investment. With compound interest, your interest payment is recalculated to earn interest on your starting value, plus any interest earned earlier.
For example, let’s consider your $1,000 investment that we started this article with:
- At 6% annual interest, after the first year the future value of your investment is $1000 + ($1000 x .06) = $1060.
- The second year, simple and compounding interest diverge:
- Simple interest means adding another simple $60. $1000 + ($1000 x .06 x 2 years) = $1120
- Compound interest means recalculating the new interest based on last year’s earnings. $1060 + ($1060 x .06) = $1123
- After 10 years your future value looks very different depending if you receive simple or compounding interest:
- Simple interest after 10 years: $1600.00
- Compound interest after 10 years: $1790.85
If you’re interested in looking at the formulas for simple and compound interest when calculating future value, Accounting for Dummies has a great explainer. On the other hand, if you’re ready to not do any more math, there are calculators that can find future value for you!
Future Value of Money Calculators Do the Job for You
If you went cross-eyed from looking at the math behind future value, the good news is there are calculators that can do the work for you. As long as you know your present value, interest rate, and time, free calculators are available across the web. Financial Mentor makes one of the most intuitive and usable future value calculators on the internet, and it’s free to use.
When you’re using web resources, make sure you verify whether the calculator is using simple or compound interest when doing its calculations. As you can see in the example above, it makes a big difference when you’re evaluating an investment.
Also, take care to note the terms of your investment. Most investments compound annually, but occasionally you’ll see bi-annual or monthly interest payments. When calculating future value, the amount of time it takes to receive a payment doesn’t matter. The important thing is how many payments you’ll receive and what the interest rate is for each payment.
Creating Custom Future Value Formulas Using Microsoft Excel
Microsoft Excel makes it easy to calculate future value using the future value formula. It also allows some flexibility for customizing the formula to your needs, and it’s more robust than an online calculator. Using an Excel formula means you can also integrate it with other financial data that you might already have in a spreadsheet. The Excel formula also allows you to factor in outside payments or adjustments each month. If you’re new to Excel, Exceljet has a great tutorial for creating a future value formula.
Inflation vs. Future Value: Determining If Your Asset Will Appreciate
Future value formulas don’t account for inflation, and inflation reduces the spending power of your future investment. For one Slate editorialist, the thought of losing out to inflation is enough to advocate against savings and for spending everything you earn.
The key here is to remember compound interest and invest in ways that your money will grow itself over time. In “Compound Interest vs. Inflation,” Trent Hamm explains how to use future value calculations to make wise savings and investment decisions that counteract inflation. Using and understanding the future value of money and compound interest is the key to investing that builds wealth, and it could make all the difference to your long-term financial success.