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# Compound interest calculator

November 14, 2018
Law of compounding is the backbone of financial returns through investment and security through insurance. Albert Einstein once referred to the law of compounding as the "eighth wonder of the world". Compounding is the process of generating more return on an asset's reinvested earnings. To work, it requires two things: the reinvestment of earnings and time. Compound interest can help your initial investment grow exponentially. This is especially beneficial for young investors for whom the time factor works in their favor. When it comes to calculating interest, there are two basic choices: simple and compound. Simple interest simply means a set percentage of the principal every year, and is rarely used in practice. On the other hand, compound interest is applied to both loans and deposit accounts. Compound interest essentially means "interest on the interest" and is the reason manyinvestments turn out to be hugely beneficial.

By basic definition, compound interest is the concept of adding accumulated interest back to the principal sum, so that interest is earned on top of interest from that moment on. The act of declaring interest to be principal is called compounding. For an effective understanding of the compounding effect, we must have a clear idea of how things work exactly. Compounding frequency or the number of times per year the accumulated interest is paid out, or capitalized (credited to the account), on a regular basis is very important. This frequency may be in days, months, bi-annual or even annual. The effect of compounding depends on:

1. The nominal interest rate which is applied and
2. The frequency interest is compounded.

A compound interest calculator is a tool that allows calculating such compounding effect on loans or investments. Looking at the compound interest in depth and studying the basic formula for it allows us to understand how the frequency of compounding periods has a definite effect on our earnings or how much we have to pay in interest. This actually means that more the frequency of compounding periods, more is the interest that is accrued. This, therefore, inevitably means that we can earn more in interest from a bank or an institution that compounds daily than we can from a bank that compounds only monthly. Thus, logically, it follows that we will pay more in interest on a loan that compounds monthly compared to one that compounds annually. The nominal rate cannot be directly compared between loans with different compounding frequencies. Both the nominal interest rate and the compounding frequency are required in order to compare interest-bearing financial instruments.

Developing a clear understanding of compound interest and the way it functions in financial dynamics can help us assert our financial freedom and the power of our investments in a magnificent way. A complete understanding helps us move ahead with our personal finances without any worries of unwanted or unplanned expenditures. Moreover, this also inculcates financial discipline. Once we realize how our creditors compound the interest on the leftover balance on a monthly basis, we are more likely to try to pay off the debts as soon as possible. Conversely, knowing that we can make more money from our existing monetary resources definitely acts as an incentive for us to develop the habit of saving and to leave the core savings corpus untouched.

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