Lesson 5: Earning Interest

Gale: Math Refresher

Interest

is money you earn for letting someone use your money. Typically, when you deposit money into a bank account, the bank uses your money to fund loans to others. Your money doesn't just sit in the bank. The rate in which this is paid will vary. The higher the rate, the more money you will earn.

Principal

The original amount of money invested. Interest is a percentage of this money that is paid to you for the use of your money.

Daily interest

It means once each day, and it refers only to calculating interest. No one will send out interest payments on a daily basis.

Monthly interest

When an interest payment are made or when interest is calculated once each month.

Quarterly interest

When an interest payment are made or when interest is calculated once every three months.

Semiannually

When an interest payment are made or when interest is calculated once every six months.

Annually

When an interest payment are paid once a year.

2 Ways Interest are Calculated

1. Simple

2. Compound

Simple Interest

Is interest calculated only on the initial principal for the entire term of the investment.

Compound Interest

It means that at regular intervals you earn interest, and that interest is added to the principal. From that point on, interest is calculated on the principal plus the interest you’ve already earned. In other words, you earn interest on interest. Interest can be compounded daily, monthly, quarterly, semiannually, or annually.

Rates

Are calculated annually regardless of how long you invest the money.

Annual Percentage Rate

Is the term used when an investment earns simple interest.

Annual Percentage Yield

This refers to investments that earn compound interest. This will always give you a higher return than APR on the same rate, because it is compounded.

360-day year

Banks use this number of days in a year to calculate interest.

Ordinary Interest

One of the two ways to calculate interest if you invest for a number of days. To calculate interest based on a 360-day year.

Exact Interest

One of the two ways to calculate interest if you invest for a number of days. To calculate interest based on a 365-day year.

Numerator

In fraction, this part tells you how many you have.

Denominator

In fraction, it is the reference. it tells you how many it takes to make one whole. On another word: It tells you the number of pieces needed to make one complete thing.

Mixed Number

A number that has a whole number and fractional part. Ex: 3 ¼

Improper Fraction

Is a fraction that is more than one. The large number will always be the numerator in this type of fraction. Ex: 8/3.

Mixed to Improper Fraction

1. Multiply the denominator to the whole number
2. Add the numerator to it (new numerator)
3. Put the new numerator on top of the old denominator.

Simple Interest Formula

Interest = Principal x Rate x Time

Bonds

is a way for the government or a corporation to raise money to fund projects. A bond is a debt. When you buy a bond, you are loaning money. The issuer promises to pay back the amount of the debt, usually, but not always, with interest. Even if the bond does not pay interest, the principal must be repaid. Issuer = government or corporation. Holder = the one who purchase this investment. It pays simple interest.

Coupon

It is the name of the interest on a bond.

Maturity Date

This is the date the bond no longer earns interest and it is the day when the issuer must repay the principal. All bonds have it.

Callable

Some bonds have this option, that after a given date, but before the maturity date, the issuer may buy the bond back. Issuer then avoids paying additional interests.

Bonds at a discount

This means that you pay less than the face value of the bond.

Municipal Bond

Is a bond issued by a state or local government. They issue bonds to pay for projects that usually require at least 10-year bonds. Is considered safer than corporate bonds.

Savings Bond

A type of bond that federal government issues. It is non-callable and non-marketable. The interest is exempt from state and local taxes, but it is federally taxable when the bond is redeemed.

Non-marketable Bond

It means that they cannot be sold to anyone else after they are purchased from federal government.

Certificate of Deposit

It is a type of investment were you are agreeing to leave money deposited for a specific period of time, anywhere from three months to six years. In return for doing this, you will be paid a fixed interest rate. There is a penalty when you take it out early. Since it is a deposit you can’t transfer the investment.