Compound interest refers to the interest that is calculated on the initial principal as well as on the accumulated interest of the previous periods of a loan or savings. The accumulated interest is added to the principal amount and this new amount is used to calculate the interest for the upcoming period. This process is repeated all through the tenure of the investment/ loan repayment.
Basically, as time passes, your interest grows exponentially. The possibilities of the power of compounding are endless giving it an edge over simple interest.
How to calculate compound interest?
There are many free compound interest calculators found online that you can use to calculate compound interest. However, if you like, you can also create an online calculator and use it to calculate compound interest.
The compound interest calculator helps us to work out:
- How compound interest is calculated
- We understand how compounding increases your savings interest
- How much money you will have saved after a certain period
- The difference between saving now and later
The Formula:
The formula used to calculate compound interest is A = P (1 + r/n) ^ nt
Where;
A= Accrued Amount (sum of principal and interest)
P= Principal Amount
I= Interest Amount
r= Rate of Interest per annum
t= Time in years
n= Number of times the interest is compounded in a year
An example:
Person X makes an investment of $50,000 with a 10% annual interest rate for a time frame of 5 years. Calculate the compound interest
First Year
50,000x 10/100
=$ 5,000
Second Year
50,000 + 5000 = 55,500 (accumulated amount)
55,000x 10/100
=$ 5,550
Third Year
55,500 + 5,550 = 60, 550 (accumulated amount)
60,550x 10/100
=$ 6,055
Fourth Year
60,550 + 6,055 = 66,605 (accumulated amount)
66,605x 10/100
=$ 6,660. 5
Fifth Year
66,605 + 6,660.5 = 73,265.5 (accumulated amount)
73,265.5x 10/100
=$ 7,326.55
Over a period of the 5 years, person X will have earned a total interest of:
5,000 + 5,550 + 6055 + 6660 + 7,326 =$ 30,591.55
The total investment, after a period of 5 years, will have amounted to:
$ 50,000 + $ 30, 591.55
= $ 80, 591.55
Facts about Compound Interest Calculators
Since you now understand how compound interest is calculated and its significance, you can easily calculate how much interest you will earn on your investment or how much interest you will pay for your outstanding loan.
Let us look at some facts about compound interest calculators that you should know:
- Compound interest calculators give an accurate figure so they are recommended for estimating how much an investment will yield.
- Compound interest calculators can be customized in such a way that the user can input different figures and calculate the interest rate accordingly.
- The compound interest calculator eliminates the need for a financial analyst to help you understand how compound interest is earned. You can use the calculator to see the numerous benefits associated with compounding interest and then make a wise investment decision. The benefits of compounding interest are:
- Even though the amount might seem small and insignificant in the beginning, the amount you stack up, in the long run, will be impressive.
- The enormous potential of compound interest. For example, it’s possible to grow your investment fourfold in a period of 24 years if you make an investment that generates a compound interest of 6% per annum
