Two formulas, one massively different outcome. Knowing which one your loan or savings account uses is worth real money.
Google this topic and you will get a hundred answers, half of them wrong. Here is the version that holds up. Two formulas, one massively different outcome. Knowing which one your loan or savings account uses is worth real money.
Simple: I = P × R × T • Compound: A = P × (1 + r/n)^(n·t)
Auto loans, short personal loans, some pay-day products, treasury bills, basic margin trading.
Savings accounts, CDs, index funds (return is implicitly compounded), credit-card balances, student loans after a grace period.
Same $5,000 at 6% over 5 years: simple = $1,500 interest. Compound monthly = $1,746. The longer the term, the bigger the gap.
Read the APR vs APY footnote. APR ignores compounding; APY includes it. If a bank quotes APY higher than APR, compounding is in play.
Is one always better? For borrowers, simple is friendlier. For savers, compound is the goal. Match the product to the side you are on.
Why do credit cards seem to grow so fast? Because they compound daily. A 24% APR card is closer to 27% APY after compounding.
Whatever number you land on, sanity-check it against a second method or a quick estimate in your head. Try the Simple Interest vs Compound Interest linked above to put these numbers to work right now.