Compound Interest
Interest calculated on the initial principal balance plus all accumulated interest from previous periods.
Plain-English Explanation
Compound interest is often called "interest on interest." Unlike simple interest—which only calculates returns on your starting principal—compounding allows your earned interest to generate its own earnings in subsequent periods. Over long horizons (10-30 years), compounding creates exponential wealth growth.
Where A is future balance, P is initial deposit, r is annual interest rate, n is compounding frequency per year, and t is time in years.
Real-World Worked Example
Why Compound Interest Matters for Your Finances
Compounding is the fundamental engine behind successful retirement savings and long-term investing. Starting to save early maximizes compounding time.
Common Misconception
People confuse APR (Annual Percentage Rate) with APY (Annual Percentage Yield), forgetting that compounding frequency drastically changes actual annual yields.