Compound interest is either the easiest way to double or even triple your savings, or a surefire ticket to bankruptcy.
Compound interest is different from simple interest. Simple interest is a fixed rate over time, based on the initial amount you invested.
To understand simple interest, suppose you deposit $100 into an account with an interest rate of 5%. Multiply your principal by the interest rate, then the length of time you plan to keep that money in the account.
One hundred dollars times 5%, or 0.05, is $5. Keep this account for 50 years and you’ll earn $250 in interest, for a total of $350.
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Compound interest is different. It is interest on interest. If used correctly, you can turn small initial investments into small fortunes.
Let’s take that same $100 from the first example, and the same interest rate of 5%. If that interest rate increases every year, your $100 would turn into $1,146 after 50 years. If you matched your initial investment of $100 each month, without changing anything, you would end up with $252,364 after 50 years.
Compound interest can be great for investing your money, but if you’re looking for a loan, it could easily send your debt spiraling out of control. The same compound interest used to grow your investments exponentially over time can also be applied to your outstanding balance on certain loans.
Watch the video to learn more about compound interest.
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