Things to Consider When Using Simple and Compound Interest
In your higher studies, when you have opted or looking forward to Maths or Accounts then you must have come across the terms simple interest and compound interest. But have you ever imagined where either of the two terms will be used? Well, the two formulas are very important to understand if you have a finance background or have applied to an investment company or want to go in the field of CA, CS. These are important concepts and one should have a deep understanding to survive in the finance sector.
So, below are the few essential points, tips, and tricks that you should know when calculating simple or compound interest.
1- Application- The first most difference between simple interest and compounding interest is the application. Always remember simple interest formula is always applied to a principal amount for the entire holding. On the other hand, compound interest is applied on the principal or the actual amount as well as on interest frequently depending upon monthly, quarterly, yearly.
2. Anyone can get benefitted- To earn a healthy return on your investment, anyone can get benefitted from compound interest. The only thing that you need to focus on is investing rather than saving. For example- If you want to invest in the stock market, or mutual funds then you do not have to be highly qualified or get a degree from Harvard University but can be benefitted from the compound interest formula.
3. Time is on your side- The more money circulates or compounds, the better and faster it grows. For example- If one is getting an interest of 7 per cent in a year which will double in about 14 years and will be worth four times in 28 years.
4. Compounding is a double edge sword- If compounding can multiply your investments with little savings then at the same time it is a cruel situation of borrowing money where you have to repay with compounding interest.
5. Wealth creation- There is no harm if your wealth grows slowly and steadily with a simple interest but at the same time, if you look at compounding interest, the wealth increases at a higher speed.
6. Change of principal amount- Under the simple interest concept, the principal amount does not change with the increased tenure and that leads to fewer returns in a period. On the other hand, principal & interest simultaneously increases and thus increases the returns over a period.
7. Formula- Both has their set formula while making a calculation i.e. for simple interest, the formula is = P*I*N
Compound interest is calculated with P (1+R/N)N *T
8. Reap benefits in the future- It’s correct that you have to balance your spending wisely to get a fruitful result in the end. If you will save a little today by one or the other means then you can end up with higher returns in the future than can safeguard your basket of investments.
9. Rich concept does not work- To earn a healthy return you do not have to be rich. You can even start from $100 or $1000 million, the compounding works great and gives you the best for the amount invested.
To conclude-
The concept of simple interest and compound interest is very important and has significant importance in their daily routine. Simple interest does not compound which means the other person will take the benefit of only the interest on the principal amount and not interest on interest. In every business, these terms are used whether it’s a loan providing company or financial institutions like banks, or financial advisors like wealth management organizations, etc These terms have a significant role in different fields.
Thus, if you are a beginner or if you want to rewind all the important concepts of simple interest and compound interest then Cuemath is the ultimate guide and will help in revising all these concepts effortlessly.