Simple vs. Compound Interest: How Money Multiplies
Interest is the cost of borrowing capital or the compensation earned for lending it. The mechanism through which interest accumulates over time creates the fundamental divide between linear growth (Simple Interest) and exponential growth (Compound Interest).
The Mathematical Formulas
1. Simple Interest (SI)
Total Amount = Principal (P) + SI
Where P is Principal, R is annual rate, and T is time in years.
2. Compound Interest (CI)
CI = Total Maturity Amount (A) - Principal (P)
Where r is decimal rate (R/100), n is compounding frequency per year, and t is years.
The Rule of 72: Quick Doubling Estimate
To approximate how many years it will take for an investment to double at a given compound interest rate, divide 72 by the annual percentage rate:
- At 6% interest, capital doubles in approx 72 ÷ 6 = 12 years.
- At 8% interest, capital doubles in approx 72 ÷ 8 = 9 years.
- At 12% interest, capital doubles in approx 72 ÷ 12 = 6 years.
Frequently Asked Questions
Why does compounding frequency matter?
The more frequently interest is compounded (e.g. daily vs monthly vs annually), the faster interest begins earning interest on itself, resulting in a higher effective annual yield (APY).
Is bank Fixed Deposit interest taxable?
Yes. FD interest is fully taxable under "Income from Other Sources" at your applicable slab rate. Banks deduct 10% TDS under Section 194A if total FD interest across branches exceeds ₹40,000 in a financial year (₹50,000 for senior citizens).