A fundamental concept to understand in your financial growth is the concept of simple and compound interest. Learn the basics of what is interest and how it will impact you when you:
- Use a credit card
- Get a car loan or mortgage for a house
- Invest your money
Whenever you take out a loan, get a credit card, or invest your money interest will be a key factor in how much money you pay or how much you make. A few percentage points different in an interest rate on a loan can easily cost you thousands of dollars over the life span of the loan. In many cases you will end up paying much more in interest than the original amount you borrowed. That is also why it is important to keep track of your credit reports and credit scores to ensure you get the best rates when you apply for credit.
The Cost of Interest
For example, lets say you run up a credit card bill of $5000 and your credit card charges you a 24.99% interest rate. You make the minimum payment of either 2.5% or $35 a month (whichever is less). It will take you almost 33 years to payoff the credit card and you will have paid $19,596 in interest!!!
Interest is the reason why so many people get caught in a credit card debt trap. With high interest rates, paying just the minimum payment can take a person decades to pay off their credit cards.
Building Wealth With Interest
The flip side of this is when you invest your money, interest can now work in your favor. This is a key ingredient to building your wealth over time. Make sure you invest your money in ways that pay you interest to build up your wealth.
Here is a standard compounding interest calculator you can use. Try out many different scenarios to see the impact of interest rate on your investments:
Government Compound Interest Rate Calculator
If you were to invest just $1,000 today in an investment that yielded 6% a year while adding just $50 a month, you would have over $26,000 in just 20 years.
Watch the video below to learn how simple and compound interest is calculated and how just a small change in interest rate can have a profound impact on your finances.