COMPOUND INTEREST

Banks use compound interest to calculate interest payments. The interest after
each year is added to the principal and the following year’s interest is found from
that new principal.

EXAMPLES

1. Find the compound interest on a loan of $600 for 2 years at 12%

Solution
Given Information

Principal (P) = $600

Annual interest rate (r) = 12%
Time (t) = 2 years

We'll calculate the amount year by year.

Interest for first year = 12% × $600

12
= 100 × 600
= $72

Principal after first year = $ 600 + $ 72

= $ 672

New principal (amount at the end of year 1): $672

Interest for second year = 12% × $672
12
= 100 × 672
= $80.64

Principal after second year = $672 + $80.64

= $752.64

Compound Interest = Amount at the end of 2 years− Original Principal

= $752.64− $600
= $ 152. 64

So, the compound interest on a loan of $600 for 2 years at 12% is $152.64.
COMPOUND INTEREST

2. $ 35, 000 is invested at 5% compound interest. What is the interest at the end of three
years?

Solution
Given Information

Principal (P) = $35,000

Annual interest rate (r) = 5%
Time (t) = 3 years

We'll calculate the amount year by year.

Interest for first year = 5% × $35,00

5
= 100 × 35,00
=$1,750

Principal after first year = $ 35,000 + $ 1, 750

= $ 36,750

New principal (amount at the end of year 1): $36,750

Interest for second year = 5% × $36,750
5
= 100 × 36,750
= $1,837.50

Principal after second year = $36,750 + $1,837.50

= $ 38,587.50

New principal (amount at the end of year 2): $ 38,587.50

Interest for third year = 5% × $ 38,587.50
5
= 100 × 38,587.50
= $1,929.38

Principal after third year = $ 38,587.50 + $1,929.38

= $ 40,516.88

Compound Interest = Amount at the end of 3 years− Original Principal

= $ 40,516.88− $ 35,000
= $ 5,516.88

So, the compound interest at the end of three years is $5,516.88

COMPOUND INTEREST

INDIVIDUAL PRACTICE QUESTIONS

1. Find the compound interest on a loan of:

a. $ 500 for 2 years at 10%
b. $ 600 for 2 years at 20%
c. $ 1000 for 2 years at 5%
d. $ 900 for 3 years at 10%
e. $ 4000 for 3 years at 15%

2. Mary borrowed $ 3,500 at a rate of 15% per annum. Interest is compounded

annually. Calculate the total amount owed at the end of two years.

3. $ 50,000 was put in a fixed deposit account on 1st January 2012, for 6
months. The rate was 12.5% per annum. On 1st July 2012, the total amount
received was reinvested for a further 6 months at 25% per annum.
Calculate the final amount at the end of the year.

4. A sum of money was invested at compound interest of 10% per annum. If

the interest for the second year was $ 1,540, what was the amount at the
start of the first year.

5. Kimberly Barry deposits $ 2000 in her bank. What is the amount in the
bank after 3 years compounded interest at 4%?

6. Peter Gabriel takes a loan of $20, 000 to buy a new car. How much must
he repay if he borrows the amount of 3 years at 15% per annum compound
interest?