SolvingCompoundInterestProblems

WhatisCompoundInterest?

Ifyouwalkintoabankandopenupasavingsaccountyouwillearninterestonthemoneyyoudepositin
thebank.Iftheinterestiscalculatedonceayearthentheinterestiscalledsimpleinterest.Iftheinterestis
calculatedmorethanonceperyear,thenitiscalledcompoundinterest.

CompoundInterestFormula

Themathematicalformulaforcalculatingcompoundinterestdependsonseveralfactors.Thesefactors
includetheamountofmoneydepositedcalledtheprincipal,theannualinterestrate(indecimalform),the
numberoftimesthemoneyiscompoundedperyear,andthenumberofyearsthemoneyisleftinthebank.
Thesefactorsleadtotheformula

r
n t FV=futurevalueofthedeposit
FV = P 1+ P=principaloramountofmoneydeposited
n r=annualinterestrate(indecimalform)
n=numberoftimescompoundedperyear
t=timeinyears.

SolvingCompoundInterestProblems

Tosolvecompoundinterestproblems,weneedtotakethegiveninformationatplugtheinformationintothe
compoundinterestformulaandsolveforthemissingvariable.Themethodusedtosolvetheproblemwill
dependonwhatwearetryingtofind.Ifwearesolvingforthetime,t,thenwewillneedtouselogarithms
becausethecompoundinterestformulaisanexponentialequationandsolvingexponentialequationswith
differentbasesrequirestheuseoflogarithms.

ExamplesNowletssolveafewcompoundinterestproblems.

Example1:Ifyoudeposit$4000intoanaccountpaying6%annualinterestcompoundedquarterly,how
muchmoneywillbeintheaccountafter5years?
4(5)
0.06 Pluginthegivinginformation,P=4000,r=0.06,n=4,
FV = 4000 1+
4 andt=5.

FV = 4000(1.015)20 Usetheorderoroperationstosimplifytheproblem.Ifthe
problemhasdecimals,keepasmanydecimalsaspossible
FV = 4000(1.346855007) untilthefinalstep.

FV=5387.42 Roundyourfinalanswertotwodecimalsplaces.

After5yearstherewillbe$5387.42intheaccount.
Example2:Ifyoudeposit$6500intoanaccountpaying8%annualinterestcompoundedmonthly,how
muchmoneywillbeintheaccountafter7years?
12(7)
0.08 Pluginthegivinginformation,P=6500,r=0.08,n=12,
FV = 6500 1+
12 andt=7.

FV = 6500(1.00666666)84 Usetheorderoroperationstosimplifytheproblem.Ifthe
problemhasdecimals,keepasmanydecimalsaspossible
FV =6500(1.747422051) untilthefinalstep.

FV=11358.24 Roundyourfinalanswertotwodecimalsplaces.

After7yearstherewillbe$11358.24intheaccount.

Example3:Howmuchmoneywouldyouneedtodeposittoday at9%annualinterestcompoundedmonthly
tohave$12000intheaccountafter6years?
12(6)
0.09 Pluginthegivinginformation,FV=12000,r=0.09,n=
12000 = P 1+
12 12,andt=6.

12000 = P(1.0075)72 Usetheorderoroperationstosimplifytheproblem.Ifthe

problemhasdecimals,keepasmanydecimalsaspossible
12000 = P(1.712552707) untilthefinalstep.

P=7007.08 Divideandroundyourfinalanswertotwodecimals
places.

Youwouldneedtodeposit$7007.08tohave$12000in6years.

Inthelast3exampleswesolvedforeitherFVorPandwhensolvingforFVorPismostlyacalculator
exercise.Becarefulnottotryandtypetoomuchintothecalculatorinonestepandletthecalculator
storeasmanydecimalsaspossible.Donotroundofftoosoonbecauseyouranswermaybeslightlyoff
andwhendealingwithmoneypeoplewanteverycenttheydeserve.

Inthenext3exampleswewillbesolvingfortime,t.Whensolvingfortime,wewillneedtosolve
exponentialequationswithdifferentbases.Rememberthattosolveexponentialequationswith
differentbaseswewillneedtotakethecommonlogarithmornaturallogarithmofeachside.Taking
thelogarithmofeachsidewillallowustouseProperty5andrewritetheproblemasamultiplication
problem.Oncetheproblemisrewrittenasamultiplicationproblemweshouldbeabletosolvethe
problem.
Example4:Ifyoudeposit$5000intoanaccountpaying6%annualinterestcompoundedmonthly,how
longuntilthereis$8000intheaccount?
12t
0.06
8000 = 5000 1+ Pluginthegivinginformation,FV=8000,P=5000,r=
12
0.06,andn =12.

8000 =5000(1.005)12t Usetheorderoroperationstosimplifytheproblem.Keep

asmanydecimalsaspossibleuntilthefinalstep.

1.6 =1.00512t Divideeachsideby5000.

log(1.6) = log(1.00512t) Takethelogarithmofeachside.ThenuseProperty5to

rewritetheproblemasmultiplication.
log1.6 =(12t)(log1.005)

log1.6 Divideeachsidebylog1.005.
=12t
log1.005
94.2355323212t Useacalculatortofindlog1.6dividedbylog1.005.

t7.9 Finishsolvingtheproblembydividingeachsideby 12
androundyourfinalanswer.

Itwilltakeapproximately7.9yearsfortheaccounttogofrom$5000to$8000.

Example5:Ifyoudeposit$8000intoanaccountpaying7%annualinterestcompoundedquarterly,how
longuntilthereis$12400intheaccount?
4t
0.07 Pluginthegivinginformation,FV=12400,P=8000,r=
12400 = 8000 1+
4 0.07,andn =4.

12400 =8000(1.0175) 4t Usetheorderoroperationstosimplifytheproblem.Keep

asmanydecimalsaspossibleuntilthefinalstep.

1.55 =1.0175 4t Divideeachsideby 8000.

log(1.55) = log(1.01754t) Takethelogarithmofeachside.ThenuseProperty5to

rewritetheproblemasmultiplication.
log1.55 =(4t)(log1.0175)

log1.55 Divideeachsidebylog1.0175.
= 4t
log1.0175
25.261632794t Useacalculatortofindlog1.55dividedbylog1.0175.

t6.3 Finishsolvingtheproblembydividingeachsideby 4and

roundyourfinalanswer.

Itwilltakeapproximately6.3yearsfortheaccounttogofrom$8000to$12400.
 Example6:At3%annualinterestcompoundedmonthly,howlongwillittaketodoubleyourmoney?

Atfirstglanceitmightseemthatthisproblemcannotbesolvedbecausewedonothaveenough
information.Itcanbesolvedaslongasyoudoublewhateveramountyoustartwith.Ifwestartwith
$100,thenP=$100andFV=$200.
12t
0.03 Pluginthegivinginformation,FV=200,P=100, r=
200 = 100 1+
12 0.03,andn =12.

200 =100(1.0025)12t Usetheorderoroperationstosimplifytheproblem.Keep

asmanydecimalsaspossibleuntilthefinalstep.

2 =1.0025 12t Divideeachsideby 100.

log(2) = log(1.0025 12t) Takethelogarithmofeachside.ThenuseProperty5to

rewritetheproblemasmultiplication.
log 2 =(12t)(log1.0025)

log 2 Divideeachsidebylog1.0025.
= 12t
log1.0025
277.605301612t Useacalculatortofindlog2dividedbylog1.0025.

t23.1 Finishsolvingtheproblembydividingeachsideby 12
androundyourfinalanswer.

At3%annualinterestitwilltakeapproximately23.1yearstodoubleyourmoney.

AdditionExamples

Ifyouwouldliketoseemoreexamplesofsolvingcompoundinterestproblems,justclickonthelinkbelow.

AdditionalExamples
PracticeProblems

Nowitisyourturntotryafewpracticeproblemsonyourown.Workoneachoftheproblemsbelowand
thenclickonthelinkattheendtocheckyouranswers.

Problem1:Ifyoudeposit$4500at5%annualinterestcompoundedquarterly,howmuchmoneywillbein
theaccountafter10years?

Problem2:Ifyoudeposit$4000intoanaccountpaying9%annualinterestcompoundedmonthly,how
longuntilthereis$10000intheaccount?

Problem 3:Ifyoudeposit$2500intoanaccountpaying11%annualinterestcompoundedquarterly,how
longuntilthereis$4500intheaccount?

Problem 4:Howmuchmoneywouldyouneedtodeposittodayat5%annualinterestcompoundedmonthly
tohave$20000intheaccountafter9years?

Problem5:Ifyoudeposit$6000intoanaccountpaying6.5%annualinterestcompoundedquarterly,how
longuntilthereis$12600intheaccount?

Problem6:Ifyoudeposit$5000intoanaccountpaying8.25%annualinterestcompoundedsemiannually,
howlonguntilthereis$9350intheaccount?

SolutionstoPracticeProblems