Compound interest

Compound interest is interest calculated on both the original principal and the interest already added to a balance. Because each calculation includes past interest, the balance grows faster over time than it would with simple interest, which is figured on the principal alone.

The effect depends on how often interest is credited. Interest can compound yearly, monthly, daily, or on another schedule. More frequent compounding adds interest to the balance sooner, so later interest is figured on a larger amount.

A short example shows the idea. If a balance earns interest in one period, that interest stays in the account. In the next period, interest is calculated on the larger balance, so the amount earned rises even when the rate holds steady.

Compounding works the same way on borrowed money, where unpaid interest can be added to the amount owed and increase the total debt.