What is compound interest?

Compound interest is interest accumulated from an initial (or principal) amount and the previously accumulated interest over time. It is the result of reinvesting (or retaining) the interest that would otherwise be paid out.

Compound interest is unlike simple interest, where previously accumulated interest is not added to the principal amount of the current period. Compounded interest depends on the simple interest rate applied and the frequency at which the interest is compounded.

The real power of compound interest is how it grows over time, and the longer it is compounded, the greater the return!

Periodic Compounding*

*A is the final amount, P is the original principal amount, r is the nominal annual interest rate, n is the compounding frequency, t is the overall length of time the interest is applied (expressed using the same time units as r, usually years). The total compound interest generated is the final amount minus the initial principal, since the final amount is equal to principal plus interest.

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Compound interest terminology

Initial Investment

The initial (or principal) amount of money that you have available to invest.

Monthly Contribution

The amount that you plan to add to the principal every month, or a negative number for the amount that you plan to withdraw every month.

Length of Time in Years

Length of time, in years, that you plan to save.

Estimated Interest Rate

Your estimated annual interest rate.

Compound Frequency

Times per year that interest will be compounded.