## What is Interest Rate?

When a lender, lend any amount to the borrower for a certain time period that is known as the principal amount over that lender charge interest that percentage of principle that percentage of principle is known as the interest rate. In simple words, the interest rate is the rate at which amount is charged by the lender over principle landed by the lender. The interest rate is directly proportional to risk as there is risk involve when a lender lends an amount to the borrower. It is also called compensation of opportunity lost.

In terms of investment, interest is paid on bank deposit investment like fixed deposit, recurring deposit and even on the amount deposited in saving bank account. Bank pay interest half yearly on saving account deposit whereas for fixed deposit and recurring deposit interest paid based on customer request which could be monthly, quarterly, half annually or yearly. And interest rate applied for one year is the annual interest.

There are two types of interest rate formula:-

- Simple Interest Formula
- Compound Interest Formula

### Simple Interest Rate Formula

Simple interest is levied when a loan is borrowed for one year or less. Simple interest is generally applied for a short term.

**Simple Interest Rate Formula = (Principle * Rate of Interest * Time Period (years))/ 100**

In simple in it also written as,

Simple Interest rate Formula = (P*R*T)/100

Let’s take a few simples to advanced examples to understand Simple Interest rate formula:

#### Simple Interest rate calculation Example #1

**A borrower, borrow $1000 from a lender for a period of 9 months and at an interest rate of 12%. Now, we will calculate simple interest rate of interest to be paid to a lender on a principal amount of $1000.**

**Simple Interest**

So from the above calculation of Simple Interest will be:

Interest payable to the lender is $90 and the principal amount is $1000. Total amount payable to a lender is $1090.

### Compound Interest Formula

Compound interest is called “interest on interest”. It is calculated on the principal amount and of the time period, it changes with time.

the time period, it changes with time.

**Compound Interest Rate Formula = P (1+i)**–

^{t }**P**

Where,

- P = Principle
- i= Annual interest rate
- t= number of compounding period for a year
- i =
__r__ - n = Number of times interest is compounded per year
- r = Interest rate (In decimal)

Total amount payable to be lender = P (1+i) ^{t}

Let’s take a few simples to advanced examples to understand the Compound Interest rate formula:

#### Compound Interest rate calculation example

**A borrower took a personal loan from ABC bank, he borrowed $5000 amount from a bank at the interest rate of 10%, for a time period of 5 years, compounded yearly then compound interest will be:**

Compound Interest

So from the above calculation of Compound Interest will be:

There is the logic of time value of money which is associated with compound interest.

**FV and PV using Compound Interest Rate Formula**

With change is time value money change in this scenario value of money i.e. present value and its future value can be calculated with the help of compound interest rate formula. The opposite word of compounding is discounting and its factors are reciprocal of in the interest rate.

**FV = PV (1+i) ^{t}**

**PV = FV/(1+i) ^{t}**

Where,

- FV = Future value
- PV = Present value
- i= Annual interest rate
- t= number of compounding period for a year
- i =
__r__ - n = Number of times interest is compounded per year
- r = Interest rate (In decimal)

**Let us calculate the future value of $ 5000 compounded yearly at the interest rate of 10% for 5 years.**

**Future Value**

So from the above calculation of Future Value will be:

**Present value**

So from the above calculation of Present Value will be:

### Simple Interest and Compound Interest Rate Calculation Differences

Let us see calculation difference for simple interest formula and compound interest formula. Suppose a person wants to start a yearly recurring deposit of $500 for a period of 10 years for the interest rate of 5%. Then he calculates the same and gets the below values.

Here, we can see that the amount invested was total $5000 from which he gets differences in the interest of compound interest and simple interest

### Relevance and Use of Interest Rate Formula

- Interest rate formula used to calculate repayment amount for loans.
- Interest rate formula used to calculate interest over investment on fixed deposit, mutual funds etc.
- An interest rate is also used to calculate interest on a credit card.

Interest rate formula helps one to understand loan and investment and take the decision. These days financial bodies like bank use Compound interest formula to calculate interest. Compounded annual growth rate i.e. CAGR is used mostly for financial applications where single growth for a period needs to be calculated.

You can download this Interest Rate Formula Excel Template from here –Interest Rate Formula Excel Template

### Recommended Articles

This has been a guide to Interest Rate Formula. Here we discuss how to calculate Simple and Compound Interest Rate in Excel using practical examples and downloadable templates. You can learn more about financial analysis from the following articles –

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