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Published byCori Wilson Modified over 8 years ago

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Simple & Compound Interest

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Simple Interest -Interest paid only on an initial amount deposited or the amount borrowed -The amount is called the PRINCIPLE

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Term -The length of TIME in years over which the $$ is deposited or borrowed Often expressed as “PER ANNUM”

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Calculating Formula The amount of simple interest accumulated on an investment or loan is calculated using this formula

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I = Prt I = the amount of interest earned or due P = the Principle r = the annual interest rate (expressed as a decimal) t = the term of investment or loan

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For an investment: Calculate the total value at the end of the term using this formula:

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A = P + I A=final value of the investment P=Principle I=Amount of Interest

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Example You want to invest $5000 in an account that offers simple interest. How much would the investment be worth at the end of a 2yr term at 3%?

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First change the interest rate to a decimle 3% =.03 Principle = $5000 Term = 2yrs

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I = Prt I = $5000 x.03 x 2ys I= $300 Now calculate the final value A=P+I A= $5000 + $300 A=$5300

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Converting Interest to a decimal 4.75% converted to a decimal =4.75 ÷ 100 =.0475

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Use the same Principle and calculate at a rate of 3.75% for 4 yrs I = $5000 x.0375 x 4 = $750 Calculate the final value A = $5000 + $750 = $5750

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Let’s Try Shall we?

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Compound Interest

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A type of interest that is calculated on the principle, plus any interest PREVIOUSLY earned

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Example -If you invest $$ for two years, but earn interest annually… -the second year of interest will be calculated on the initial principle PLUS the interest it earned in the 1 st year

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Example -$5000 @ 3% for 2 yrs calculated using COMPOUND Interest Year 1 I = $5000 x.03 x 1yr = $150 A = $5000 + $150 = $5150

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Example Year 2 I = $5150 x.03 x 1 = $154.50 A = $5150 + $154.50 = $5304.50 Therefore - $5000 compounded “annually” over 2yrs @ 3% = a return of $304.50

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Compounding Period If the interest is compounded annually = once/yr Investments can have different compounding periods

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Example Interest can be calculated “SEMI-Annually” Twice/year Interest can be calculated “QUARTERLY” 4 x per year

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Example Interest can be calculated “MONTHLY” Once/Month Interest can be calculated “DAILY”

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Calculation Formula A = P(1+r ) n A = Final Value P = Principle r = Interest Rate n = Number of compound periods t = term of investment/loan nt

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Example Calculate the interest earned on $1000 put in an account that offers 4%/annum compounded annually for 2yrs

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Example A = P(1+r ) n A = $1000 x (1 + 0.04 ) 1 nt 1x2 A = $1000 x (1.04) 2 A = $1081.60

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Compare w/Simple Interest I = $1000 x 4% x 2 I = $1000 x.04% x 2 I = $80 A = $1000 + $80 = $1080 Compound Int. = $1081.60

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