Simple interest
Overview and Calculations of Simple Interest
The meaning of 'Simple Interest'
A simple interest is a fast method of calculating the interest charge on a loan. Simple interest is calculated by multiplying the interest rate by the principal by the number of periods.
Simple Interet=P×I×N
Where:
P is the loan amount
I is the interest rate
N is the duration of the loan, making use of number of periods
Simple interest is termed simple because it does not take into consideration the effects of compounding. The interest charge is at all times always based on the original principal, so interest on interest is not included. This method may be utilized to find the interest charge for short-term loans, where ignoring compounding is not very much an issue.
Understanding simple interest is very essential in mastering your finances. There may be a little bit of mathematics required, but it's not composite arithmetic, and you can as well make use of a calculator do the work if you like. Once you comprehend how interest works, you'll be in a better position to make clever decisions.
Simple Interest Overview
Simple interest is money that you pay on a loan, or that you earn on deposits. For instance, when you borrow money, you have to repay the loan in addition to paying for a little extra. Or, when you deposit money in a savings account, you earn money on that deposit and you can take your original deposit out in addition to your interest earnings. Interest is that extra money, and the amount of interest is estimated based on the original sum of money known as the "principal".
The term "simple" means you're working with the easiest way of calculating interest. Immediately you understand how to calculate simple interest, you can move on to other varieties such as APY, APR, and compound interest.
Simple Interest Formula
To calculate simple interest, make use of this formula:
I = P x r x t
Description:
Simple Interest (I) is estimated by multiplying Principal (p) times the Rate (r) times the number of Time (t) periods.
Example:
You invest N100 (the Principal) at a 5% annual rate for 1 year. The simple interest calculation is:
P x r x t = I
or
N100 x 5% x 1 year = N5
or
N100 x .05 x 1 year = N5
Observe that the interest rate (5%) is written as a decimal (.05). To do your own calculations, you'll be required to convert percentages to decimals. An easy way to remember how is to consider the word "percent" as "per 100." Then, you can convert a percentage into its decimal form by dividing by 100. For instance:
5 divided by 100 = .05
You can as well merely move the decimal two places to the left in order that 5.00 turns into 0.05.
Calculators:
If you don't want to do these computations yourself, you can make use of calculator, spreadsheet, or have Google carryout the computations for you. Merely type the formula into a search box, click return, and you'll see the results. For instance, try the phrase "5 / 100" (you ought to obtain an answer of .05. This link will carry out that same function for you.
Simple Interest Limitations
Simple interest is a very fundamental way of looking at interest. In fact, your interest – whether you’re paying it or earning it – is normally calculated with the use of different methods. Nevertheless, simple interest is a good start and it can provide you with a general idea of what a loan will cost or what an investment will return.
As the time period required gets longer like if you're dealing with a 30 year mortgage rather than a one year bank deposit, for instance, simple interest calculations become less correct. The same is true of "compounding frequency."
For instance, when you borrow with a credit card, you may calculate how much interest you pay with the use of simple interest. Nevertheless, the majority of credit cards quote an annual percentage rate (APR), but interest is charged daily. Owing to this, you'll owe much more than you imagined if you make use of a simple interest calculation.
The major thing to keep in mind is that simple interest does not take compounding into considering.
At this stage you have become aware of the way simple interest works, you can look at more complex types of interest. The majority of them are a variation of simple interest, and the calculations are repeated a lot of times all through the life of a loan.
A good next step is to become very familiar with Annual Percentage Yield (APY), which accounts for compounding.
You can as well see how much interest you pay when borrowing money. Running the numbers may encourage you to borrow less and repay debt more speedily.
How to Calculate Simple Interest
Simple interest is the amount of interest paid based exclusively on the original amount lent or borrowed. By distinction, interest can as well be computed based on the original amount plus interest that has already gathered up. This is as well known as "compound" interest. Below we have made available information that will guide you through the calculation of simple interest with the use of the formula I=PRT, where I = interest, P = principal, R = the interest rate, and T = time.
Steps to follow:
1. Find your principal
The principal is the first sum of money you will calculate interest on. In general, the principal is the money that you borrowed or lent at the beginning of the interest period. For example, If you lent a friend N55,000 naira for. It signifies that your principal is 55,000.
2. Write the interest rate as a decimal
The interest rate specifies what percent of the principal will be paid as interest for every time period that interest accumulates. Normally, interest rates are written as percentages, which can be divided by 100 to produce a decimal value.
For example, let's say that you told your friend that your N55,000 loan would have an interest rate of 3%. Written as a decimal, this is 3/100 = 0.03.
3. Specify time
When calculating simple interest, be aware that interest accumulates at constantly-spaced time intervals. For yearly interest, these are years, but, they depend on the terms of the loan, they can as well be months, weeks, days, and so on. Write the time value as a simple integer or decimal standing for the number of time intervals passed before the loan will be paid. In our example, let's say that you told your friend he'll have to pay you back, with annual interest, in ten years. This means that your value for time is 10.
Nevertheless, if we had mentioned a varied time interval, our value would be different. For example, if we agreed upon monthly interest over the 10-year life of the loan, our time value ought to be: 10 years × 12 months = 120.
4. Substitute your values for P,R, and T into the equation I = PRT
The next step is to Multiply principal × rate × time to estimate the amount of simple interest on the loan. The value that you obtain for I is the money you will pay or be paid on top of the principal that was lent or borrowed.
Working with the figures from our example, we would substitute 55,000 for P, 0.03 for R, and 10 for T. I = 55000 × 0.03 × 10 = 16500 = N16, 500. From the calculation, your friend would be owing you N16,500 in interest.
This equation is mainly estimating a small percentage of the principal loan, then multiplying that amount by the number of time periods for which interest is calculated. Because of this, making use of smaller time intervals can highly increase the amount of interest that accumulates over the life of the loan. If we had agreed on monthly interest, our T would equal 120, which implies the interest over 10 years would be too much: N198,000!
5. Add the interest to the principal to obtain the total owed
When a loan is paid off, the borrower doesn't just have to pay the interest - s/he ought to as well pay back the principal that was borrowed. To obtain the total amount owed, add the value you calculated for interest to the principal.
In our example, we would merely add our interest value (16,500) to our principal (N55,000) to obtain N71,500. With 3% annual interest for 10 years, your friend will owe you a total sum of N71,500 in payment for the initial $55,000 loan
Conclusion:
In conclusion, anytime money is borrowed, interest is charged for the use of that money for a specific period of time. When the money is paid back, the principal which is the amount of money that was borrowed and the interest accumulated is paid back to the lender by the borrower. The amount to interest depends on the interest rate, the amount of money borrowed (principal) and the length of time that the money is borrowed.
The formula for calculating simple interest is: Interest = Principal * Rate * Time. If N100 was borrowed for 2 years at a 10% interest rate, the interest would be N100*10/100*2 = N20. The total amount that would be due ought to be N100+ N20 = N120.
Simple interest is normally charged for borrowing money for short periods of time. Compound interest is similar but the total amount due at the end of each period is calculated and additional interest is charged against both the original principal but as well the interest that was earned during that period.
Simple Interest
Interest that is paid on the principal amount borrowed. It is taken as the best type of interest for a borrower due to the fact that it is not complicated.
Borrowing money comes with a fee from the lender. Interest is that cost, and it is of two forms: Simple and compound.
Simple interest is considered the best form of interest for the borrower due to the fact that it is charged only once, and it is a percentage of the original principal, contrary to compound interest. If you borrow N1,000 at 10 percent simple annual interest, then you pay N100 in interest per year. If you borrow it for two years, then you pay N200 in interest. This is different from the most commonly used compound interest which may constitute more cost to the borrower. Due to their fixed costs, loans with simple interest are much more preferred to those with compound interest.
No comments
Post a Comment