Financial Security in Life: Now and Later
The Power of
Compound Interest
What Is Compound
Interest?
When saving money, interest
refers to the earnings you receive
on money deposited in your
savings account.
Simple interest is the interest paid
only on the original amount
deposited. This original amount is
called the principal.
Compound interest, by contrast,
is when the interest is calculated
more than once through the year
and added to your principal so
that you earn interest on interest.
The more often interest is
compounded, the faster your
savings grow.
For a Single Deposit
How does your money grow with
compound interest?
Let’s assume that you deposit
$1,200 in your savings account,
on which interest is compounded
monthly. How much would you
have in your account after one
year? After five years? After 10
years? Table 1 shows the balance
in your account with different
interest rates and for different
lengths of time. For example, at 4
percent interest, in 10 years your
initial deposit of $1,200 would
grow to $1,789.
Table 1. Growth of $1,200 lump sum
deposited into savings account
Interest Rate
Years
2%
4%
6%
1
1,224
1,249
1,274
5
1,326
1,465
1,619
10
1,465
1,789
2,183
15
1,619
2,184
2,945
20
1,790
2,667
3,972
25
1,978
3,257
5,358
30
2,185
3,976
7,227
35
2,415
4,855
9,748
40
2,669
5,928
13,149
For Regular Savings
Table 2 shows how much you
would have in your savings
account after various lengths of
time and interest rates by saving
just $100 a month. Suppose you
contributed $100 to your savings
account each month for 10 years,
receiving 4 percent interest
compounded monthly. At the end
of that time, you would have
deposited $12,000, but your
savings would have grown to
$14,725.
Table 2. Growth of $100 a month deposited into savings account
Interest Rate
Years
2%
4%
6%
Total Invested
1
1,211
1,222
1,234
1,200
5
6,305
6,630
6,977
6,000
10
13,272
14,725
16,388
12,000
15
20,971
24,609
29,082
18,000
20
29,480
36,677
46,204
24,000
25
38,882
51,413
69,299
30,000
30
49,273
69,405
100,452
36,000
35
60,755
91,373
142,471
42,000
40
73,444
118,196
199,149
48,000
College of Agricultural Sciences
%
Agricultural Research and
Cooperative Extension
The Rule of 72
Ever wonder how long it will
take you to double your
money at a given interest
rate? The Rule of 72 can tell
you. Just divide 72 by the
interest rate and you know
how many years it will take
to double your money. For
example, at 6 percent
interest it will take 12 years
to double your money. At 10
percent interest, your
money will double in just 7.2
years. If you need to double
your money in six years,
divide 72 by 6 and you’ll
find out that you must get
12 percent interest on the
money.
Savings vs. Loans
Table 1 and Table 2 show how
interest grows in your savings
account. If you are taking a loan,
compound interest works against
you. How much will you have to
pay in interest on a loan? Table 3
shows the total principal and
interest you pay when paying off
a $1,000 loan on which interest is
compounded monthly. For bigger
loans, divide the amount of the
loan by 1,000 and multiply the
result by the appropriate number
from Table 3 for the interest rate
and term of the loan. For example, for a $5,000 loan for 10
years at 12 percent interest,
multiply 1,722 by 5 to get $8,610.
That $5,000 loan ultimately will
cost $3,610 in interest!
Interest rates can vary considerably, but rates for mortgages or
car loans are likely to be 10
percent or lower; credit card
interest rates are likely to be 12
percent or higher.
Compare Interest Rates
Annual Percentage Yield
and Annual Percentage Rate
There are many ways of calculating interest. When looking at
investments or savings accounts,
compare the annual percentage
yield (APY) for each account you
are considering. The APY
provides a uniform basis for
comparison by indicating, in
percentage terms on the basis of
one year, how much interest a
consumer receives on a deposit.
When looking at loans, compare
the annual percentage rate (APR).
This is a measure of the cost of
credit that expresses the finance
charge as a yearly rate. The APR
includes interest and may also
include other charges associated
with the loan.
Table 3. Cost of a $1,000 loan paid in equal monthly payments for term of loan
Prepared by Robert Thee, CFP,
extension agent in Lancaster
County, in consultation with
Marilyn Furry, associate professor
of agricultural and extension
education.
Visit Penn State’s College of Agricultural
Sciences on the Web: www.cas.psu.edu
Penn State College of Agricultural Sciences
research, extension, and resident education
programs are funded in part by Pennsylvania counties, the Commonwealth of
Pennsylvania, and the U.S. Department of
Agriculture.
This publication is available from the
Publications Distribution Center, The
Pennsylvania State University, 112
Agricultural Administration Building,
University Park, PA 16802. For information
telephone 814-865-6713.
Issued in furtherance of Cooperative
Extension Work, Acts of Congress May 8
and June 30, 1914, in cooperation with the
U.S. Department of Agriculture and the
Pennsylvania Legislature. T. R. Alter,
Director of Cooperative Extension, The
Pennsylvania State University.
This publication is available in
alternative media on request.
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Interest Rate
© The Pennsylvania State University 2002
Years
6%
8%
10%
12%
15%
18%
24%
1
1,033
1,044
1,055
1,066
1,083
1,100
1,135
5
1,160
1,217
1,275
1,335
1,427
1,524
1,726
Produced by Information and Communication Technologies in the College of
Agricultural Sciences
10
1,332
1,456
1,586
1,722
1,936
2,162
2,646
CAT UI369 5Mps4497b
15
1,519
1,720
1,934
2,160
2,519
2,899
3,705
20
1,719
2,007
2,316
2,643
3,160
3,704
4,842
25
1,933
2,315
2,726
3,160
3,842
4,552
6,016
30
2,158
2,642
3,159
3,703
4,552
5,426
7,206