The interest that is applied only to an initial amount of money is called
simple interest. The initial amount is known as the
principal. Simple interest is calculated as a of principal, annual interest rate, and the time in years.
An interest rate is a used to calculate the interest on the principal. It may be easier to write it in form to make the calculations easier. For instance, assume that a savings account earns
3% simple interest per year on a deposit of
$1000.
1000⋅0.03⋅1=$30
This means that the simple interest earned on
$1000 in one year is
$30. The final amount of money in the account is called the
balance. The following table shows the balance over five years of an account that earns
3% simple interest each year.
Years |
Amount of Simple Interest |
Balance
|
1
|
1000⋅0.03⋅1=$30
|
1000+30=$1030
|
2
|
1000⋅0.03⋅2=$60
|
1000+60=$1060
|
3
|
1000⋅0.03⋅3=$90
|
1000+90=$1090
|
4
|
1000⋅0.03⋅4=$120
|
1000+120=$1120
|
5
|
1000⋅0.03⋅5=$150
|
1000+150=$1150
|
Notice that the balance at the end of each period is calculated by adding the principal and simple interest earned during that period.