Building Wealth with Compound Interest
When it comes to comparing rates on various types of savings accounts, the term compounding might be considerably confusing.
But it doesn’t have to be.
What is compound interest?
Simply stated, compound interest is accrued when interest is added to the principal - the original amount invested - and that added interest also earns interest. It is often referred to as “interest on interest.” The compounding happens during a set period, usually monthly or daily. For savings accounts at banks and credit unions, the most common compounding schedule is daily.
Compound interest makes an account balance grow faster than simple interest. It can be a powerful savings and wealth-building tool and can significantly enhance account earnings over the long haul.
“You might take out a $1,000 certificate of deposit (CD) and have it for six months and now it is $1,020 – that is why you are earning more, because the interest keeps adding up on a regular basis. The principal value continues to increase,” said John Garrett, Georgia United Credit Union’s director of product management. "I like reminding people that compounding interest is essentially saying that starting from Day Two, we are paying interest on the interest we have already compounded for the account."
Earning $20 in six months may not seem like much, but it essentially snowballs with compounding interest – the higher the balance grows, the more interest you earn.
If you know what the APY (Annual Percentage Yield, which includes compounding) is on an account, you can get a quick estimation of what you will earn over a specific time frame with our compound interest calculator.