Table of Contents
Simple Interest
What is Simple Interest?: In finance, simple interest is interest that is calculated only on the initial principal sum invested or lent. Simple interest is calculated as a percentage of the initial principal sum. It is usually expressed as an annual percentage rate. Simple interest is paid on the initial principal sum only and not on any accumulated interest.
For example, if a person deposits $1,000 in a savings account that pays simple interest at a rate of 2%, then the person will earn $20 in interest in a year. If the person leaves the money in the account, the person will continue to earn $20 in interest each year. If the person withdraws the money, the person will not earn any interest on the money that was withdrawn.
Simple interest is contrasted with compound interest, which is interest that is calculated on the initial principal sum and on the accumulated interest. Compound interest is usually expressed as an annual percentage rate of return. Compound interest can result in a larger total amount being paid out than simple interest.
The Simple Interest Formula is:
I = Prt
Where:
I is the Simple Interest
P is the Principal
r is the annual interest rate
t is the number of years the interest is compounded
For example, if you have $1,000 in a savings account that pays 5% interest per year, then after one year you would have $1,050 in the account. This is because the 5% interest is compounded yearly, so the interest is calculated on the initial $1,000 as well as the interest earned in the previous year.
Simple Interest Example
If you borrow $1,000 from a friend at 10% annual interest, you will owe your friend $1,100 at the end of the year. Your friend will earn $100 in simple interest on the loan.
Simple Interest Formula
The simple interest formula is I = Prt, where I is the simple interest, P is the principal, r is the annual interest rate, and t is the number of years the money is invested.
Difference Between Simple Interest and Compound Interest
- The two types of interest are simple interest and compound interest. Simple interest is calculated only on the initial amount of the loan or deposit, while compound interest is calculated on the initial amount plus any accumulated interest.
- Simple interest is calculated on the initial principal amount only. Compound interest is calculated on the initial principal amount as well as on the accumulated interest of previous periods.
- The difference between simple and compound interest is that simple interest is calculated only on the initial principal amount, while compound interest is calculated on the initial principal amount as well as on the accumulated interest of previous periods. This means that compound interest earns interest on interest, while simple interest does not.
- For example, suppose you deposited $100 in a savings account that pays 5% simple interest per year. At the end of one year, you would have $105. If the account paid compound interest, you would have $110.50. This is because the interest you earned on your original deposit (5% of $100) would be added to your principal, and then the interest on that would be calculated (5% of $110.50).
Solved Examples
Example1: Evaluate the simple interest, when :
(i) Principal = Rs 12000 , Rate of interest = 10% per annum , and Time = 5 years
Solution:
Given-
Principal Amount (P) = Rs 12000
Rate of interest (R) = 10% per annum
Time = 5 years
Using the formula for Simple Interest = (P × R × T) ÷ 100
(12000 × 10 × 5) ÷ 100
= Rs. 6000
Example2: Evaluate the simple interest, when:
Principal = Rs .9000
Rate of interest = 7% per annum
Time = 8 months
Solution:
Given-
Principal Amount (P) = Rs 9000
Rate of interest (R) = 7% per annum
Time = 8months
Using the formula for Simple Interest = (P × R × T) ÷ 100
(9000 × 7 × 8/12) ÷ 100
= Rs. 420
Example3: Evaluate the simple interest, when:
Principal = Rs .2000
Rate of interest = 5% per annum , and
Time = 70 days
Solution:
Given-
Principal Amount (P) = Rs 2000
Rate of interest (R) = 5% per annum
Time = 70days
Using the formula for Simple Interest = (P × R × T) ÷ 100
(2000 × 5 × 70/365) ÷ 100
= Rs.134.25
For more visit Simple Interest v/s Compound Interest
