However, simple interest is very seldom used in the real world. When more complicated frequencies of applying interest are involved, such as monthly or daily, use the formula: interest = principal × interest rate × Interest = principal × interest rate × term The formula to calculate simple interest is: He would simply be charged the interest rate twice, once at the end of each year.ĭerek owes the bank $120 two years later, $100 for the principal and $20 as interest. Let's assume that Derek wanted to borrow $100 for two years instead of one, and the bank calculates interest annually. This interest is added to the principal, and the sum becomes Derek's required repayment to the bank one year later.ĭerek owes the bank $110 a year later, $100 for the principal and $10 as interest.

Derek would like to borrow $100 (usually called the principal) from the bank for one year. The following is a basic example of how interest works. There are two distinct methods of accumulating interest, categorized into simple interest or compound interest. The concept of interest is the backbone behind most financial instruments in the world. Interest is the compensation paid by the borrower to the lender for the use of money as a percent or an amount. Related Investment Calculator | Average Return Calculator | ROI Calculator