Difference between Simple interest and Compound Interest

Simple interest is based on the principal amount of a loan or deposit, which remains constant while calculating it against the interest rate, which is a percentage of the principal amount of the loan.

Compound interest is based on the principal amount plus the interest that accumulates on it in every period, i.e. at the end of each period, the amount on which the interest rate is applied increases.

Formulae

Illustration of Calculation

Simple Interest Compound interest
Period 1 – Interest rate 10%

Principal amount Kshs 100,000/

 

Interest = 100,000 x 10% = 10,000

 

Debt at end of period Kshs 110,000

Period 1 – Interest rate 10%

Principal amount Kshs 100,000/

 

Interest = 100,000 x 10% = 10,000

 

Debt at end of period Kshs 110,000

Period 2 – Interest rate 10%

Principal amount Kshs 100,000/

 

Interest = 100,000 x 10% = 10,000

 

Debt at end of period if period 1 interest not paid = 110,000+10,000 = 120,000

 

Period 2 – Interest rate 10%

Principal amount Kshs 110,000/=

 

Interest = 110,000 x 10% = 11,000

 

Debt at end of period if period 1 interest not paid = 110,000+11,000 = 121,000

 

Period 3 – Interest rate 10%

Principal amount Kshs 100,000/

Interest = 100,000 x 10% = 10,000

 

Debt at end of period if period 1 & 2 interest not paid = 120,000+10,000 = 130,000

 

Period 3 – Interest rate 10%

Principal amount Kshs 121,000/=

 

Interest = 121,000 x 10% = 12,00

Debt at end of period if period 1 & 2 interest not paid = 121,000+12,100 = 133,100

 

Period 4 – Interest rate 10%

Principal amount Kshs 100,000/

 

Interest = 100,000 x 10% = 10,000

Debt at end of period if period 1, 2 & 3 interest not paid = 130,000+10,000 = 140,000

 

 

Period 3 – Interest rate 10%

Principal amount Kshs 133,100/=

 

Interest = 133,100 x 10% = 13,310

Debt at end of period if period 1, 2 & 3 interest not paid = 133,100+13,310 = 146,410

 

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