How to Calculate Simple Interest

All of us have studied how to calculate simple interest in school but all of us eventually forget almost everything we studied in school. Specially the mathematics class was something of least interest for most, wasn't it? For this very reason, this article will tell you how to calculate simple interest if you are finding it difficult to do so. Basically, there are two types of interest, viz. Simple Interest and Compound Interest. Following is an explanation of simple interest and the formulas that help us in calculating the same.

What is Simple Interest?

Simple Interest is the most simplest of all interest and its calculations are equally simple to understand. However, let us understand the concept first. This is very beneficial as we have better knowledge of our finances when we have to pay back loans etc. Suppose, A borrows money from B, then A is charged simple interest for getting this privilege and B earns this interest. A is the borrower and B is the lender in this transaction. Simple interest is charged on the basic amount of money borrowed and this amount is called the Principal. Simple interest loans are mostly short-term loans and the interest is calculated in percentage. The best example to understand simple interest is the interest that the bank pays you on your deposits. Now that you have understood this meaning, let's have a look at how to calculate simple interest.

Learn How Simple Interest is Calculated...

Here is the most basic simple interest formula. I say most basic, because here we are considering that the term is in years. When your term for loan or borrowing is in years, the calculation is the simplest as you don't have to make any adjustments. Let's see an example to avoid confusion.

A borrows $20,000 from B for a term of 6 years at 5% simple interest.

Here, the P = 20,000, R = 5% and T = 6. Note: [5% = 5/100 = 0.05]

So, going by our formula of I = P x R x T,

Simple Interest = 20,000 x 0.05 x 6
= 1,20,000 x 0.05
= 6,000

How to Calculate Simple Interest if Time is not in Years, but in Days?

It is not necessary that a particular amount of money is always borrowed for a minimum of few years. It can also be borrowed for a few days or some months. However, we do not consider months but only days. Let's have a look at one more example.

A borrows $ 10,000 from B from February 14, 2011 to August 12, 2011 at 10% simple interest.

Now, the formula is still I = PRT. But the T here will change. Let us see how.

We need to first count the number of days in each month that the money is borrowed for. Here we have,

February = 15, March = 31, April = 30, May = 31, June = 30, July = 31 and August = 12.

. ' . 15 + 31 + 30 + 31 + 30 + 31 + 12 = 180 days.

But in the formula, we will consider, 180/365 as it is 180 days out of 365 days.

So, the end result formula for simple interest will be = 10,000 x 0.10 x 180/365

How to Calculate Simple Interest on a Loan?

Simple interest loans are calculated in a similar fashion as mentioned before. To understand better, let's look at this example.

A woman purchases a designer bag worth $10,000. Her interest rate stands at 10% and the time period at 1 year. She also opts for the weekly installments.

How much interest will she have to pay?

I = P x R x T
= 10,000 x 0.10 x 1
= $ 1,000

How much will she have to pay back in all?

Principal Amount + Interest

= 10,000 + 1,000
= $11,000

How much will she have to pay every week?

Total payments / loan period x no. of weeks in a year.

. ' . 11,000 / 1 x 52
= 11,000 / 52
= $ 211.54

Now that you know how to calculate simple interest, it'll be easier for you to manage your finances in respect to loans and the like. As we have seen, calculating simple interest is really easy and requires no brain of Einstein's. However, with the variations, it might get confusing at times. Remember these simple interest formulas and you shall never face a problem in calculating your simple interest.