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Same rate, very different results. See how simple and compound interest work, why the gap keeps growing, and how compounding can build wealth or deepen debt.
Simple interest is calculated only on the original amount you invested or borrowed, called the principal. The interest never earns interest of its own. If you put $10,000 at 6% simple interest, you earn $600 every year, no more and no less, for as long as the money stays put.
That makes simple interest easy to predict. The interest is a flat amount each period, so the total grows in a perfectly straight line.
Compound interest is calculated on the principal plus all the interest that has already been added. In other words, you earn interest on your interest. Each period, the balance is a little bigger than before, so the next interest payment is a little bigger too.
The same $10,000 at 6% compounded annually earns $600 in year one. In year two, the balance is $10,600, so the interest is $636. In year three it's about $674, and so on. The growth isn't a straight line, it's a curve that gets steeper over time.
| Type | Formula | What the Letters Mean |
|---|---|---|
| Simple interest | A = P × (1 + r × t) | A = final amount, P = principal, r = annual rate as a decimal, t = years |
| Compound interest | A = P × (1 + r ÷ n) ^ (n × t) | Same as above, plus n = number of times interest compounds per year |
For annual compounding, n is 1, and the compound formula simplifies to A = P × (1 + r) ^ t. You can test both formulas with our Simple Interest Calculator and Compound Interest Calculator.
Say Nina puts $10,000 into an account earning 6% a year and leaves it alone. Here is how the balance looks under each method.
| Years | Simple Interest Balance | Compound Interest Balance (annual) | Difference |
|---|---|---|---|
| 1 | $10,600 | $10,600 | $0 |
| 5 | $13,000 | $13,382 | $382 |
| 10 | $16,000 | $17,908 | $1,908 |
| 20 | $22,000 | $32,071 | $10,071 |
| 30 | $28,000 | $57,435 | $29,435 |
These are simple illustrations, not predictions or guarantees. Notice that after one year the two methods give identical results. The difference only appears once interest starts earning interest. After 30 years, compounding has more than doubled Nina's balance, while simple interest has grown it by only 2.8 times.
With simple interest, Nina adds the same $600 every year. With compound interest, she adds $600 in year one, about $636 in year two, about $674 in year three, and by year twenty the yearly interest is more than $1,800. Each year's interest joins the balance and starts working, so the growth speeds up instead of staying flat.
This is why compounding is often described as a snowball. It starts slowly and looks unimpressive in the early years, then gathers speed as it goes. It also explains why the difference in the table above is small at first and large later on.
Interest can compound annually, quarterly, monthly, or even daily. The more often it compounds, the sooner interest starts earning interest, and the more you end up with. Here is $10,000 at a 6% annual rate over 10 years.
| Compounding Frequency | Balance After 10 Years | Effective Annual Yield (APY) |
|---|---|---|
| Annually | $17,908 | 6.000% |
| Quarterly | $18,140 | 6.136% |
| Monthly | $18,194 | 6.168% |
| Daily | $18,220 | 6.183% |
The step from annual to monthly adds about $286, which is real but modest. The gains from more frequent compounding shrink quickly, so the rate and the time matter far more than the frequency.
This is also where two labels you'll see on bank accounts come in. The APR (annual percentage rate) is the stated yearly rate. The APY (annual percentage yield) includes the effect of compounding, so it shows what you actually earn over a year. When comparing savings accounts or CDs, compare APYs. You can see how a specific rate and term play out with our CD Calculator.
To estimate how long it takes for compounding money to double, divide 72 by the annual rate. At 6%, money doubles in about 12 years. At 8%, about 9 years. At 4%, about 18 years.
| Annual Rate | Years to Double (72 ÷ rate) |
|---|---|
| 4% | 18 years |
| 6% | 12 years |
| 8% | 9 years |
| 10% | About 7.2 years |
The Rule of 72 is an approximation and works best for rates between about 6% and 10%. It only applies to compounding, not simple interest. With simple interest at 6%, doubling your money takes 100 ÷ 6, or nearly 17 years.
Compounding isn't only good news. When you owe money, it works in the lender's favor. Say Marcus carries a $5,000 credit card balance at a 22% APR, and imagine, for illustration, that he made no payments for three years. With interest compounding monthly, the balance would grow to about $9,616. Over a single year, a 22% APR compounded monthly works out to an effective rate of about 24.4%.
Real cards require minimum payments, so the numbers play out differently, but the principle holds: unpaid interest gets added to the balance and then charged interest itself. That is why paying off high-interest debt is often described as a guaranteed return equal to the interest rate. Our Debt Payoff Calculator shows how fast different payment strategies clear a balance.
| Product | Typical Interest Treatment |
|---|---|
| Savings accounts and CDs | Usually compound, often daily or monthly, so compare APYs |
| Credit cards | Interest is typically calculated daily on your balance, so unpaid interest compounds quickly |
| Most auto loans | Simple interest calculated on the remaining principal balance |
| Federal student loans | Interest accrues daily on the principal; unpaid interest can be added to the principal (capitalization) in certain situations, after which interest accrues on the larger amount |
| Bonds | Regular interest payments (coupons) that only compound if you reinvest them |
Exact terms vary by lender and product, so always check the details in your own agreement. If you're deciding where to keep savings, our Personal Finance 101 course explains why a high-yield savings account is a common home for an emergency fund.
Bank accounts promise a stated rate. Stocks and funds don't. They don't pay "interest" at all. Instead, their value rises and falls, and dividends or gains that you reinvest can compound over time. Returns are uneven from year to year, so a steady compound-interest calculation is best treated as a scenario, not a forecast. To see how uneven growth is summarized as one steady rate, read our lesson on CAGR. And as covered in nominal vs real returns, inflation reduces what compounded growth can actually buy.
1. Comparing accounts by APR instead of APY. Two accounts with the same stated rate can pay different amounts if they compound at different frequencies. APY puts them on equal footing.
2. Underestimating how long compounding takes to show up. In the first few years the difference from simple interest is tiny. Most of the benefit arrives later, so patience matters.
3. Ignoring compounding on debt. Carrying a credit card balance lets interest snowball against you. The earlier the balance is cleared, the less interest gets added on top of interest.
4. Assuming every loan compounds the same way. Auto loans, student loans, and credit cards all treat interest differently. Read the terms before assuming which type applies.
5. Treating a compound-interest projection as a guarantee. Investment returns aren't steady, and inflation and taxes reduce what you keep. Use projections to explore scenarios, not to make promises.
Key Takeaway: Simple interest grows in a straight line because it's only paid on the original amount, while compound interest earns interest on interest and accelerates over time — a huge advantage when you're saving and a costly one when you're in debt.
It depends on which side you're on. As a saver or investor, compound interest is better because your balance grows faster. As a borrower, simple interest is usually better because you're charged only on the principal.
APR is the stated annual rate and doesn't include compounding. APY includes the effect of compounding, so it shows what you actually earn (or pay) over a full year. When comparing savings products, APY is the more useful number.
It varies. Many savings accounts compound daily and credit interest monthly, while some CDs compound monthly, quarterly, or annually. The account's terms will tell you how often.
Not in the strict sense, because stocks don't pay interest. But their returns can compound over time when gains and reinvested dividends are added to your balance and continue to grow. The growth is uneven and not guaranteed.
It's a quick approximation that works well for rates of roughly 6% to 10%. For very low or very high rates, or for exact planning, use a calculator or the full compound-interest formula.
Yes. On credit cards and other debts where unpaid interest is added to the balance, interest is charged on interest, so a balance can grow quickly if it isn't paid down. Paying more than the minimum reduces how much compounding can add.
Disclaimer: This article is for general educational purposes only and does not constitute personalized financial, investment, tax, or legal advice. Figures, rates, and rules mentioned may change over time — verify current details with an official source or a qualified professional before making financial decisions.