Stay Informed for Your Own Benefit—How to Calculate Interest Rates

how to calculate interest rates

How in control of your money do you feel? In today’s world there are many ways you can make the most of your money and most of us use store accounts, personal loans, home loans and more to get more out of this life—or at least reach a few of our goals earlier whether it’s owning a new pair of shoes or getting your dream house built.

The consequence is of course the responsibility to pay it all back—With interest.

Why is Calculating Interest Important Knowledge?

Interest. That’s where many people lose some control: Keeping tabs on what you have to pay but also what the best repayment plan is to get out of debt as quick as possible. There’s also the question of whether you can plan ahead—Are you sure you’re making the right decision in taking out that specific loan or is there a better long term option at another vendor?

The latter often happens when we’re not aware of how to calculate interest rates for a specific scenario or we simply don’t put in the effort to find out. Everyone else borrows from this bank so why shouldn’t you?

Perhaps all you need is an understanding of how the interest will be calculated for your specific scenario. When you have more insight into what you’re committing to you can plan better and make sure you have the monthly resources to pay it all back.

Where Will You Use This?

The key is not to feel pressured to make impulsive decisions. Doing the math before you commit to anything can save you a lot of money in the long term:

  • Is a six month no interest store account really more beneficial if the store’s interest rates are higher than others?
  • Will you be able to pay back more than the minimum amount on your home loan to combat the results of compounded interest?
  • Verify whether a loan vendor’s calculations are correct to ensure no one is trying to swindle you.
  • Understand the monthly impact on your budget when a vendor only talks about annual percentages instead of breaking it down for you.
  • Determine how much your investments will deliver so you can budget effectively.
  • Discuss the rates with your bank or vendor and enquire about better options—or tell them you’ve found a better option and will move your investment if they don’t match it.

Can you see how knowing about this puts you back in control??

Different Scenarios—Different Calculations

To really get a grip on this it’s important to understand that these different scenarios mentioned above will have unique calculations. You’ll use different numbers in your calculations based on whether you’re working with a month’s interest paid or an entire year’s. You’ll also customize the formula based on whether you work with weeks, months or years.

Don’t simply start calculating: Double check you’ve got the right data.    

How to Calculate Interest Rates

Formulas

The Numbers

For your calculation you need the following:

  • I: The amount you pay on interest. This could be for any time period such as a year or a month.
  • P: The principle is the amount of money the interest is calculated on, before any interest was added.
  • T: The time period can be expressed as weeks, months or years.
  • R: The interest rate.

Important: In this equation the interest rate is represented by a decimal. You need to multiply it by 100 to obtain a percentage.

The Formula

No matter the details of your numbers (whether you work with months, years etc) your formula will be:

R = I/PxT

An Example

If you need to know what your monthly interest rate is on a loan of $10 000 at the bank to compare it to another option you’ve heard about that charges 1.5% monthly interest, it’s easy. Let’s say you’ve paid an amount of $1500 in interest over the past year.

According to your equation:

R = 1500/10 000 x 12

R = 0.0125

Remember: You want to know what your monthly rate is, which is why you’ll use 12.

To make it easier to understand, multiply this by 100 and get a percentage of 1.25%.

According to this calculation it’s better to stay with the bank you’re currently using.

Don’t Like Math? Use Other Options

If you’re in a rush you’ll also find many online resources these days such as interest calculators.

[Conclusion]

It’s time you step back in control of your finances. And now you see it’s not that difficult. Do you have more questions or some tips for others regarding money management? Please leave your feedback in the comments below.  

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