Compound Interest Formula: Know Why We Use The Standard One

The compound interest formula is made through the idea of compounding interest

. An interest using the compound interest formula is best viewed in an investment in the form of a savings account. Every now and then, depending on the terms of the bank, your interest gets compounded. What happens here is the interest gets added to your principal amount and forms the new principal amount on your account. The cycle goes on until the investment is finished. So, basically it is interest added to interest plus the principal amount that just means double profits for the one investing.

Using the compound interest formula, you will be able to see that the principal amount has a period given by the bank in which the interest gets compounded. This is the time where the compound interest magic happens.

For A Clearer Understanding Of The Compound Interest Formula Per Period, Here Is How We Derive The Formula:

Before showing you the compound interest formula here are the things to remember:

A would be the total amount of the whole savings account after the interest gets compounded.

CI would be the compounded interest. It is the compounded amount minus the principal amount of the savings account.

I would be the interest gained from the compounding process in the account.

r would be the rate of interest per year of the investment.

n would be the number of time that the interest gets compounded since mostly savings account gets its interest compounded yearly as well.

t would be the number of years where the interest gets compounded

The formula derivation for the first year of the savings account.

I1 = Prt

I1 = P*r*1

I1 = Pr

Therefore:

A1 = P + I1

A1 = P + Pr

A1 = P(1+r)

The formula derivation for the second year of the savings account results are:

I2 = P(1+r)r

A2 = P(1+r)2

compound interest formula

Therefore, the standard compound interest formula used for every year with yearly compounding is:

A = P(1+r)n

To read this properly, the standard compound interest formula has this meaning of its variables:

A is the new amount that is gained from the principal amount and the interest gained from compounding.

P is the principal amount in the savings account that will later be compounded.

r is the rate of interest for every period given on the compounding of the interest.

n is the number of times that the interest gets compounded in the invested savings account.

Through using the standard compound interest formula, one can be sure of at least the approximate amount to be gained from a investment of a savings account. Use it to your advantage and learn more from the compound interest formula!

by: William Ava

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