Compound Interest

When you save money, you’ll likely earn interest on your savings. Compound interest refers to the extra interest you’ll earn on top of the interest itself. This is great for your savings, as you earn interest on your interest.

For example, if you open a savings account that earns compound interest at a rate of 10%, and put £100 into the account, you’ll earn 10% on this amount, giving you a balance of £110 after one year. If you then don’t touch this account, either by withdrawing funds or adding money, you’ll earn 10% on the £110 balance! This can be a good way to grow your savings at an advanced rate as your interest accrues interest too, so you are earning more each year even if the interest rate remains the same.

Compound interest on lending

Unfortunately, compound interest doesn’t just apply to savings. Some types of lending/borrowing can also be subject to compound interest.

For example, on some credit cards and loans, you might owe interest on the interest you’ve already accrued. In the same way that a small amount of savings can grow over time without additional deposits, a small debt can also grow unless you pay it off.