# Compounding interest is a very important concept to understand in adult life. In compounding, interest earns interest, which helps savings but hurts debt. So, while credit cards and loans CHARGE interest on existing interest each month, increasing your debt, on the other hand, savings accounts, CD’s, and retirement funds EARN interest on interest, making the money grow over time. This is why compounding interest is often considered “magical”: “the magic of compounding interest”. However, this magic can both help you and also hurt you, depending whose earnings or debt is increasing. To do it, you take the starting amount (Principal), multiply it by a number that gets bigger over time (the Rate), and you do this multiplication for every year it sits in the bank (the Times).  So for example,  Interest Earned = Principal x (1 + Rate)^Times – Principal The Principal x (1+Rate) repeats for as many times there are in “Times”.  So \$100 @ 5% interest: 1st year might be: \$100 × 1.05 = \$105  2nd year might be: \$105 × 1.05 = \$110.25 etc. Once you fully grasp how this works, you will be ready to understand how it works when you break the year into periods. But having this as a solid foundation is most important.

Compounding interest is a very important concept to understand in adult life. In compounding, interest earns interest, which helps savings but hurts debt. So, while credit cards and loans CHARGE interest on existing interest each month, increasing your debt, on the other hand, savings accounts, CD’s, and retirement funds EARN interest on interest, making the money grow over time. This is why compounding interest is often considered “magical”: “the magic of compounding interest”. However, this magic can both help you and also hurt you, depending whose earnings or debt is increasing.

To do it, you take the starting amount (Principal), multiply it by a number that gets bigger over time (the Rate), and you do this multiplication for every year it sits in the bank (the Times).
So for example,
Interest Earned = Principal x (1 + Rate)^Times – Principal

The Principal x (1+Rate) repeats for as many times there are in “Times”.
So \$100 @ 5% interest:
1st year might be: \$100 × 1.05 = \$105
2nd year might be: \$105 × 1.05 = \$110.25
etc.

Once you fully grasp how this works, you will be ready to understand how it works when you break the year into periods. But having this as a solid foundation is most important.

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