You need to understand how interest rates work when
it comes to dealing effectively with the money you work hard to earn. This is
the case if you want to be a credit card holder. The same can be said if you
plan to buy a car, a home or apply for a loan or line of credit with your bank.
You need to understand interest rates for every bill you need to pay!
We all need a basic understanding of what interest
rates are and how they work. Even if you do not have a head for figures the
basic math behind interest rates is something that everyone can learn, and
indeed needs to learn for all future money matters.
What
is Interest?
In its most basic form, interest is money that is above and beyond the principal of money
that is borrowed. If you borrow money from someone who is deemed a lender of
money then you have incurred a debt and it is necessary to repay the debt.
Interest will be charged on your account based upon the amount of money that is
owing.
What interest is can be explained like this:
Interest is a percentage of the total owing on the
debt and this is periodically added to the total outstanding balance as a type
of fee for the privilege of using the money. Interest is not a one-time thing
but it continues to add up until the point at which the debtor pays the debt in
full.
What
is an Interest Rate?
An interest rate
is the exact percentage of the total debt that is charged to the account.
Interest rates are something no one can escape if they choose to borrow money
in any manner. Interest rates are charged on loans, credit cards, mortgages,
utility bills, medical bills and so on. How much interest is charged on each individual
item varies and the credit histories of each consumer also play a role.
Understanding
Interest Rates
Before you even consider taking out a loan or
applying for a credit card, it is important to understand how interest and
interest rates work. If you do not take the time to learn about interest then
you will not have a clear idea of what your debts are actually costing you to
pay off and you might find yourself extremely frustrated that your balances
decreases at an extremely slow rate despite the fact that you pay your bills as
faithfully as possible.
Two
Types of Interest
There are basically two kinds of interest. They
include simple interest and compound interest. Here we will look only at simple interest in
order to better understand how interest rates work.
Simple interest is just that- it is simple and
straightforward to comprehend. Simple interest is also sometimes called “flat
rate” interest and it is a percentage of the complete balance that a debtor owes
to a creditor.
The formula for calculating simple interest is as
follows:
Interest = Principal x Rate x Time
To use a practical example, if you borrow a loan for
$1000 and the yearly interest rate
attached to the loan is 15 percent then this means that after one year
has gone by, the debtor would owe $150 in interest charges. This equation looks
like this:
1000 x .15 = $150
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