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Wednesday, August 13, 2008

Compound interest

Compound interest means interests earned being added back to your principal amount for next interest earn.

Example:

In year 2006 you have $1000 in bank earning 1% per annual.

Your 2006 year end statement will show $1010, which is $10 interest earned.
Your 2007 year end statement will show $1020.1, provided you don't withdraw that $10 interest out and leave it in your account to compounded.

So what so great about compound interest? If you know the rule of 72, then you will know when your principal amount will double.

Example:

You have $10000 in your bank with interest rate of 3%. Your $10000 will double in 24 years. (72/3 = 24)

If you have $10000 with interest rate of 6%, then it will double in 12 years. (72/6 = 12)

This compound interest can be applied not only to saving but also to investment that have annual return.

That mean the earlier you start saving or investing with higher interest rate or return, the faster your amount will double.

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