What the f*ck is compound interest?

by Sarah Kelsey

Please see our disclaimer here before reading this post.

Compounding 101

What you may not know is that the bank pays its savers interest for keeping their money with them!!

This is also why lenders are charged interest, because the bank will pay you some of the interest they earn from lenders and keep the rest. The concept of compounding happens as a result of reinvesting earned interest, instead of removing it from your account you then earn interest again on the starting sum plus the reinvested interest. To explain it slightly differently, compound interest on savings occurs when you put a starting sum of money into a bank account and earn interest on that principal amount and then again on the principal amount plus interest you earned the first time. Compounding simply means ‘growth of growth’ as your sum of money grows, so does the interest.

You must understand compound interest if you:

  • Invest money 
  • Save money in an account that earns interest 
  • Have debt and don’t pay off your interest each period 

Compound interest can be a great long-term savings technique, although what you might not know is that it works both ways. Compound interest can also increase our debt and therefore cause long term financial problems rather than benefits. If you think about our example earlier and how we earn interest on interest, apply this to your debt. The slower you repay interest-earning debt, the more money you will need to pay back.