Compound interest is used to work out how much money needs to be paid.

What is an interest rate?

An interest rate is the percentage that the amount of money you pay back increases. For example, if you borrow £100 with an interest rate of 1%, then the total amount will increase by £1 each year until you pay it back.

People who save their money in a bank account are also affected by interest rates. For example, if you save £100 with an interest rate of 5%, then (providing the amount saved stays the same) your bank balance will increase by £5 each year.

Working out compound interest

To work out compound interest, you need to know the following:

It’s easier how to understand this if you know how to work out percentages.

Let’s try an example question.

John had saved £10,000 into a bank account with 5% interest. What is the amount he will have after 3 years?

When calculating this, you get the interest rate (5%, or 0.05) and multiply it by 1. In this case, it is 5% so the number we’ve got is 1.05.

There are two ways of doing the calculation. One way is doing them one at a time, like this:

10000 x 1.05 = £10,500.00

10500 x 1.05 = £11,025.00

11025 x 1.05 = £11,576.25

Or if you have a calculator, you could add the number of years (in this case, it’s 3) as a power.

10000 x 1.053 = £11,576.25

Whatever way you do it, you will get exactly the same answer.

Now you try

Or you can download a printable worksheet here with the answers here.