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Questions and Answers
What formula is used to calculate simple interest?
What formula is used to calculate simple interest?
If a principal of $1000 is invested at a rate of 5% per annum for 3 years, what is the simple interest earned?
If a principal of $1000 is invested at a rate of 5% per annum for 3 years, what is the simple interest earned?
Which of the following statements about simple interest is true?
Which of the following statements about simple interest is true?
If an investment earns simple interest of $200 over 5 years, what could be the possible principal amount if the interest rate is 4% per annum?
If an investment earns simple interest of $200 over 5 years, what could be the possible principal amount if the interest rate is 4% per annum?
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How does simple interest differ from compound interest?
How does simple interest differ from compound interest?
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Study Notes
Definition
- Simple interest is a method of calculating interest on a principal amount.
- It's calculated only on the original principal, not on any accumulated interest.
Formula
- The simple interest (SI) formula is: SI = (P * r * t) / 100
- P = Principal amount
- r = Rate of interest per year (in percentage)
- t = Time period (in years)
Calculation Example
- Suppose a principal amount (P) of $1000 is invested at a rate of interest (r) of 5% per year for 2 years (t).
- Using the formula: SI = (1000 * 5 * 2) / 100 = $100
- The total amount after 2 years would be $1000 + $100 = $1100
Key Features
- Simple interest is relatively easy to calculate.
- The interest earned remains constant over the time period if the rate and principal do not change.
- The interest doesn't earn any additional interest.
Applications
- Simple interest is frequently used in short-term loans, simple savings plans, and some types of certificates of deposit (CDs).
- It's simpler to understand compared to compound interest and can be more straightforward for calculations involving smaller time periods.
When Simple Interest is Useful
- Situations where calculations are straightforward and the focus is on the earning of the interest on the principal for a specified time period.
- For basic financial planning and comparison purposes when dealing with smaller time periods.
Comparison with Compound Interest
- Compound interest is calculated on both the principal and the accumulated interest.
- Unlike simple interest, compound interest generates a snowball effect of increasing earnings over time.
- Compound interest generally yields higher returns over longer periods compared to simple interest, due to the compounding effect.
Key Differences
- Simple Interest: Interest is calculated just on the principal amount.
- Compound Interest: Interest is calculated on the principal plus accumulated interest from previous periods.
Simple Interest vs. Compound Interest Summary Table (Illustrative)
| Feature | Simple Interest | Compound Interest |
|---|---|---|
| Calculation | Only on the initial principal | On principal plus accumulated interest |
| Growth Pattern | Linear, consistent growth in interest | Exponential growth—interest grows faster over time |
| Investment Value | Lower investment value for long-term periods | Higher investment value for long-term periods |
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Description
This quiz focuses on the basic concepts of simple interest, including its definition, formula, and calculation examples. You'll learn how to apply the simple interest formula to real-life scenarios involving loans and savings.
