Formula for Compound Interest

Using this formula, P represents the principal amount. This is the amount of the original mortgage, loan or investment. The annual nominal interest rate, r, is usually expressed as a decimal. The number of times the interest is calculated per year is expressed as the letter n. For most loans and mortgages, n is equal to twelve, because interest is usually calculated monthly. There are variations on this, however. Some mortgages are calculated weekly or annually, to enable either lower or higher rates. The letter t represents the number of years involved. This could include the number of years that the loan or investment is contracted for, or it could be used to calculate the amount of interest that would be calculated up until a certain date.

Finally, the capital letter A is used to represent the amount of interest paid after a given time. This is the most important number, and really the only one most people are concerned about.

Even if you are not a banker or investment broker, it is important to be comfortable with the formula for compound interest. A basic working knowledge of this formula will give you a better understanding of how your investment is earning money, or of how your mortgage, loan, or credit card is costing you money. Understanding the basic mechanics of compound interest will enable you to negotiate a better rate or choose a wiser investment, ultimately saving or earning you a great deal of money over time.

Other people who may be interested in the formula for compound interest include students and teachers. Understanding compound interest is one of the basic teachings in many introductory mathematics or business courses, and provides a foundation from which all the other complex calculations involved in business can be better understood.

Whatever your reason for wanting to know the formula for compound interest, it never hurts to copy it down and keep a hard copy handy for referring to. Even if you know the formula and understand how it works, it can help to have a written copy of the formula itself and a key for what the letter values stand for, just in case you need reminding.