Compound Interest: The Eighth Wonder Explained Simply
With simple interest, you earn interest only on the money you originally deposited. With compound interest, each period's interest is added to the balance, and the next period's interest is calculated on that larger amount. Over long periods, this "interest on interest" can become larger than the original deposit itself.
The compound interest formula
For a single deposit, the formula is A = P × (1 + r/n)n×t, where P is the principal, r the yearly rate, n the number of times interest compounds per year and t the number of years. When you add regular monthly deposits, each deposit compounds from the month it is made, which this calculator handles for you.
Does compounding frequency matter?
More frequent compounding gives a slightly higher return, because interest starts earning interest sooner. The difference between monthly and daily compounding is usually small, but the difference between yearly and monthly can be noticeable on large balances. The "Effective annual rate" line shows the true yearly return after compounding, which is the fairest way to compare two accounts.
Three levers that grow your balance
- Time – the longer money compounds, the faster it grows in later years.
- Rate – a higher rate has an outsized effect over long periods.
- Regular deposits – adding money consistently often matters more than chasing a slightly higher rate.
Compounding works against you on debt
The same maths that grows savings also grows unpaid debt. Credit card balances that compound monthly at high rates can snowball quickly, which is why clearing them is often the best "investment" available.