Calculating Effective Interest Rate

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OpenOffice Powerpoint Calculating Effective Interest Rate
Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca How to Calculate Effective Interest Rate
Calculation Help Calculating Effective Interest Rate http://www.wikihow.com/Calculate-Effective-Interest-Rate

Edited by Carolyn Barratt, A_F_Bob_Blair_Jr, Maniac, Chris and 5 others
When analyzing a loan or an investment, it can be difficult to get a clear picture of the loan's true cost or the investment's true yield. There are several different terms used to describe the interest rate or yield on a loan, including annual percentage yield, annual percentage rate, effective rate, nominal rate, and more. Of these, the effective interest rate is perhaps the most useful, giving a relatively complete picture of the true cost of borrowing. To calculate the effective interest rate on a loan, you will need to understand the loan's stated terms and perform a simple calculation.

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Calculating Effective Interest Rate

  1. 1. OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca Calculating Effective Interest Rate OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca
  2. 2. How to Calculate Effective Interest Rate CalculationHelpCalculatingEffective Interest Rate How to Calculate Effective Interest Rate CalculationHelpCalculatingEffective InterestRatehttp://www.wikihow.com/Calculate-Effective-Interest-Rate Edited by Carolyn Barratt, A_F_Bob_Blair_Jr, Maniac, Chris and 5 others When analyzing a loan or an investment, it can be difficult to get a clear picture of the loan's true cost or the investment's true yield. There are several different terms used to describe the interest rate or yield on a loan, including annual percentage yield, annual percentage rate, effective rate, nominal rate, and more. Of these, the effective interest rate is perhaps the most useful, giving a relatively complete picture of the true cost of borrowing. To calculate the effective interest rate on a loan, you will need to understand the loan's stated terms and perform a simple calculation. OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca
  3. 3. Overview Calculate The Effective Interest Rate Using The Following Formulae. ➲1 Calculate-Effective-Interest-Rate-Step-1-Version-2 ➲2 Calculate-Effective-Interest-Rate-Step-2-Version-2 ➲3 Calculate-Effective-Interest-Rate-Step-3-Version-2 ➲4 Calculate-Effective-Interest-Rate-Step-4-Version-2 ➲5 Calculate-Effective-Interest-Rate-Step-5-Version-2 ➲6 Calculate-Effective-Interest-Rate-Step-6-Version-2 ➲- Effective Interest Rate Cheat Sheet ➲ Stated Interest Rate Conversion Cheat Sheet OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca
  4. 4. Calculate-Effective-Interest-Rate-Step-1-Version-2 The effective interest rate calculation does not take into account one-time fees like loan origination fees. These fees are considered, however, in the calculation of the annual percentage rate. 1 Familiarize yourself with the concept of the effective interest rate. The effective interest rate attempts to describe the full cost of borrowing. It takes into account the effect of compounding interest, which is left out of the nominal or "stated" interest rate. For example, a loan with 10 percent interest compounded monthly will actually carry an interest rate higher than 10 percent, because more interest is accumulated each month. OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca
  5. 5. Calculate-Effective-Interest-Rate-Step-2-Version-2 2 Determine the stated interest rate and number of compounding periods for the loan. These are the 2 important terms needed to calculate effective interest rate. The stated (also called nominal) interest rate will be expressed as a percentage. The compounding periods will generally be monthly, quarterly, annually, or continuously. This refers to how often interest is applied. OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca
  6. 6. Calculate-Effective-Interest-Rate-Step-3-Version-2 3 Familiarize yourself with the formula for converting the stated interest rate to the effective interest rate. The effective interest rate is calculated through a simple formula: r = (1 + i/n)^n - 1. In this formula, r represents the effective interest rate, i represents the stated interest rate, and n represents the numberCalculating Effective Interest Rate Edit:periods per year.paz4Tunnel@hotmail.ca of compounding PAZ=Paddon Development Email: OpenOffice Powerpoint
  7. 7. Calculate-Effective-Interest-Rate-Step-4-Version-2 4 Calculate the effective interest rate using the formula above. For example, consider a loan with a stated interest rate of 5 percent that is compounded monthly. Using the formula yields: r = (1 + .05/12)^12 - 1, or r = 5.12 percent. The same loan compounded daily would yield: r = (1 + .05/365)^365 - 1, or r = 5.13 percent. Note that the effective interest rate will always be greater than the stated rate. OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca
  8. 8. Calculate-Effective-Interest-Rate-Step-5-Version-2 5 Familiarize yourself with the formula used in case of continuously compounding interest. If interest is compounded continuously, you should calculate the effective interest rate using a different formula: r = e^i - 1. In this formula, r is the effective interest rate, i is the stated interest rate, and e is the constant 2.718. OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca
  9. 9. Calculate-Effective-Interest-Rate-Step-6-Version-2 6 Calculate the effective interest rate in case of continuously compounding interest. For example, consider a loan with a nominal interest rate of 9 percent compounded continuously. The formula above yields: r = 2.718^.09 - 1, or 9.417 percent. OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca
  10. 10. Effective Interest Rate Cheat Sheet ➲Strategy ➲Summary OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca http://www.wikihow.com/Sample/Effective-Interest-Rate-Diagram
  11. 11. Stated Interest Rate Conversion Cheat Sheet ➲Strategy ➲Summary Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca http://www.wikihow.com/Sample/Stated-Interest-Rate-Conversion-Diagram
  12. 12. Thank You OpenOffice Powerpoint Calculating Effective Interest Rate Edit: PAZ=Paddon Development Email: paz4Tunnel@hotmail.ca

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