Compound interest

Interest earned on both the original principal and on interest already added, so growth speeds up over time.

What it means

Compound interest means interest is periodically added to the balance, and future interest is then calculated on that larger balance. Over time this creates exponential growth, often described as interest on interest.

The effect grows with the rate, the time period and how often interest compounds (daily, monthly or annually). It works in favor of savers and investors who leave money alone for years, and against borrowers who carry balances, such as on credit cards, where unpaid interest is added to what is owed.

Formula

A = P × (1 + r / n)^(n × t)

A = ending balance
P = starting principal
r = annual interest rate as a decimal
n = compounding periods per year
t = number of years

Example

Suppose you invest $10,000 at 5% compounded annually for 10 years. The balance becomes $10,000 × 1.05^10, or about $16,289. Simple interest at the same rate would yield only $15,000.

How it’s used

Projecting savings and retirement growth
Understanding why credit card debt grows quickly
Comparing accounts that compound at different frequencies

Good to know

Time is the biggest lever: starting earlier usually matters more than a slightly higher rate.

Educational information only, not financial, tax or legal advice. Rules, limits and rates change; check the IRS, your lender or plan, or a qualified professional before acting.