2. What is Simple Interest ?
Interest computed only on the principal not on principal plus
interest earned or incurred in the previous period(s).
Simple interest is used commonly in variable rate consumer
lending and in mortgage loans where a borrower pays interest
only on funds used.
Formula:
Principal amount Annual interest rate Number of years
Where,
Principle Amount - The amount of money
invested or borrowed.
Rate - Is in the annual interest converted to
a decimal.
TIME - in years.
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3. Formula
Definition: I = Prt
I = interest earned
P = principal (amount invested)
r = interest rate (as a decimal)
t = time
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4. Interest
Interest: How much is paid for the use of money (as a percent, or
an amount)
Money is Not Free to Borrow
People can always find a use for money, so it
costs to borrow money.
How Much does it Cost to Borrow Money?
Different places charge different amounts at different times!
But they usually charge this way:
As a percent (per year) of the amount
borrowed
It is called Interest © iTutor. 2000-2013. All Rights Reserved
5. Example of Interest
Borrow $2,000 from the Bank
Jordan wants to borrow $2,000. The local bank
says "10% Interest". So to borrow the $2,000 for
one year will cost:
$2,000 10% = $200
In this case the "Interest" is $200, and the "Interest Rate" is 10%
(but people often say "10% Interest" without saying "Rate")
Jordan will have to pay back the original $2,000 after one
year, so this is what happens:
Today
Bank Jordan
$2,000
$2,000
next Year
Jordan Bank
$2,000
$200
Interest
Jordan Borrows $2,000, but has to pay back $1,200
6. Example
Example :Find the interest on a boat loan of $5,000 at 16%
for 8 months.
Solution: Use I = P r t
I = 5,000(0.16)(0.6667)
(8 months = 8/12 of one year 0.6667 years)
I = $533.33
Example :Felisha wants to buy a new computer. She wants to borrow
$2,500 for 3 years. She will pay an interest rate of 5%. How much will
she owe at the end of the 3 years?
Solution: Use I = P r t
I = 25,00 (0.05) 3
I = $375
The cost of the loan is $375 Making the
cost of the computer
$2,500 + $375 = $2,875
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7. Total Amount to Be Paid Back
In general, the future value (amount) is given by the
following equation:
A = P + Prt
= P (1 + rt)
Example: What is the annual interest rate earned by a 33-day
T-bill with a maturity value of $1,000 that sells for $996.16?
Solution: Use the equation A = P (1 + rt)
1,000 = 996.16
33
1
360
r
We normally use 360
days for a financial year
1000 = 996.16(1+r(0.09166))
1000=996.16+996.16(0.09166)r
1000-996.16
996.16(0.09166)
0.042 4.2%
r
r
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8. The End
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