What is compound interest and how does it work?
Compound interest is interest earned on both your initial deposit and on the interest that accumulates. This means you earn interest on the interest, so your savings grow faster over time compared to simple interest. For example, $100 at 5% interest grows to $105 after one year, then to $110.25 in the second year as interest is calculated on $105.
What is the compound interest formula?
The formula to calculate compound interest is A = P(1 + r/n)^(n×t). Here, A is the amount after t years, P is the initial principal, r is the annual interest rate (in decimal), n is the number of compounding periods per year, and t is the time in years. Example: P = $1,000, r = 5% (0.05), n = 12, t = 1: A = 1000(1 + 0.05/12)^(12×1).
How do I use the compound interest calculator?
- Enter your initial savings (principal).
- Enter the number of years you plan to save.
- Enter the expected annual interest rate.
- (Optional) Enter any regular contribution amount and frequency.
- Select how often interest is compounded (daily, monthly, etc.). The calculator will then show your final balance, total contributions, and interest earned.
How do contributions affect compound interest?
Regular contributions increase the total amount of money earning interest. Each contribution becomes part of the principal for subsequent periods, boosting the final balance. The more you contribute, or the more frequently you contribute, the higher your final savings will be.
What is the difference between compound and simple interest?
Simple interest is calculated only on the initial principal. Compound interest is calculated on the principal plus all accumulated interest. This “interest on interest” effect means compound interest yields more earnings over time. For example, $100 at 5% simple interest gains $5 each year, while at 5% compound interest, year two interest is calculated on $105, earning $5.25.
How long will it take to double my investment with compound interest?
A quick way to estimate doubling time is the “Rule of 72.” Divide 72 by the annual interest rate (in percent). For example, at 6% interest: 72 / 6 = about 12 years to double. (This is an approximation; the actual time depends on the exact rate and compounding frequency.)
What factors affect the growth of compound interest?
Several factors affect compound interest growth:
- Interest Rate: Higher rates increase growth.
- Time: More years allow more compounding.
- Compounding Frequency: More frequent compounding yields slightly faster growth.
- Additional Contributions: Making regular deposits adds to the principal and significantly boosts the final amount.