Compound interest definition Compound interest definition Compound interest arises when interest is added to the principal, so that, from that moment on, the interest that has been added also earns interest. This addition of interest to the principal is called compounding. Compound interest may be contrasted with simple interest, where interest is not added to the principal (there is no compounding). Compound interest is standard in finance and economics, and simple interest is used infrequently (although certain financial products may contain elements of simple interest). In order to define an interest rate fully, and enable one to compare it with other interest rates, the interest rate and the compounding frequency must be disclosed. Since most people prefer to think of rates as a yearly percentage, many governments require financial institutions to disclose the equivalent yearly compounded interest rate on deposits or advances.
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Compound Interest depends on principal amount and past interest. Compound interest is basically used to get interest over the interest to earn some profit. Here compound word stands for compounding interest and principal. Compound interest definition: Compound interest is interest that is paid on principal as well on interest on any time of Period. This compound interest is generally used when a person invests on something and wants to gain an amount or profit then he applies compound interest. Now let us see how to solve compound interest problems: We can solve compound interest problem very easily with help of formula which is: M =P (1 + i)n, Here 'M' is final amount which includes principal amount. 'P' is the principal amount or amount which is borrowed by a person. 'i' is the rate of the interest that can be in per year, per month or per week. Basically interest has rate per year. 'n' is the number of years or months. Now let us understand the problem of compound interest with help of an example. Assume that a person has principal amount of $ 1000 which he wants to invest. He wants to invest amount for 3 years and rate of compound interest is 5%. Now we have to calculate compound interest.
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For this we will use the formula to get compound interest. M =P (1 + i)n, M = 1000 (1 + .05)3, M = $ 1157.62 C.I. = 1157.62 - 1000 = 157.62.
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