Compound Interest

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Definition of 'Compound Interest'

Compound interest is the interest earned on both the principal amount and any accumulated interest that has been previously earned. In other words, it is interest that is calculated not only on the initial amount of an investment or loan, but also on any interest that has been earned on that amount over time.

The concept of compound interest is often illustrated using the "rule of 72", which states that the number of years it takes for an investment to double in value is roughly equal to 72 divided by the annual interest rate. For example, if an investment earns 5% interest per year, it would take approximately 14.4 years (72 รท 5) for the investment to double in value.

Compound interest can be a powerful tool for building wealth over time, as the interest earned on an investment can continue to grow exponentially. It is commonly used in savings accounts, investments, and loans, and can have a significant impact on the total amount of money that an individual can earn or owe over time.

It is worth noting that compound interest can also work against individuals who have loans or credit card balances, as the interest charges can accumulate and grow rapidly over time, leading to higher total amounts owed. Therefore, it is important to be aware of the impact of compound interest when making financial decisions and to use it to one's advantage whenever possible.

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