What Is Simple Interest?

Simple interest is the most basic form of financing charge a lender can issue. With simple interest, a flat percentage fee is added to the loan principal. This fee is divided up among all the payment terms, and the borrower pays off a portion of the interest each month.

Calculating Simple Interest

To calculate simple interest, use this formula: principal X interest rate. The product is the amount of interest that you will be charged over the life of the loan. Add this amount to the principal to determine the total cost of the loan. This sum can be divided by the number of payment terms for the loan to determine your monthly expense.

Alternatives to Simple Interest

Most loans are not issued on simple interest. Some loans compound, meaning that the principal debt is re-totaled each month based on the remaining debt and the interest payments. Some loans are issued with an annual percentage rate or yield. In this case, a financial calculation must be used to determine the effect of compounding on the total cost of the loan. This interest model will always make a loan more extensive than simple interest. As a result, it is best to find a simple interest loan if possible.

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