Next video:

Interest is the price charged to borrow money, and is typically expressed as a percentage of the principal, or the amount loaned.

Someone who borrows money from a bank to buy a house or open a business will pay interest on the loan. The bank makes money from the interest it charges, while the borrower pays the interest for the privilege of using the loan.

Interest rates are either simple or compounding. With simple interest, the rate paid is a fixed percentage of the loan. In compounding interest, both the principal and the accumulating interest are subject to interest fees. Â

Joe borrows \$40,000 from a bank to buy a new car. If he has five years to repay the loan and the bank charges a simple interest rate of 4%, Joe will pay \$8,000 in interest, plus the principal. To calculate the interest paid, multiply the principal by the interest rate and then by the time of the loan. Â

Joe also puts \$1,000 into an investment that offers 5% annual compounding interest. After three years, that investment will increase to \$1,157.63 thanks to the power of compounding interest. To calculate the compounding interest, multiply the principal amount by one plus the annual interest rate raised to the number of compound periods minus one.

Interest also refers to a stockholderâ€™s ownership in a company, usually expressed as a percentage. For example, an investor who holds more than 5% of a companyâ€™s outstanding shares holds a significant interest in the company.

## In This Series

6. ### What Is Inflation?

Related Articles
1. Personal Finance

### Simple Interest Loans: Do They Exist?

Yes, they do. Here is what they are â€“ and how to use them to your advantage.
2. Investing

### 4 Ways Simple Interest Is Used In Real Life

Simple interest works in your favor when you're a borrower, but against you when you're an investor.
3. Investing

### Understanding the Power of Compound Interest

Understanding compound interest is important for both investing and borrowing money.
4. Insights

### Simple Interest

Simple interest is a quick method of calculating the interest charged on a loan. Simple interest is determined by multiplying the interest rate by the principal by the number of periods.
5. Investing

### Learn Simple and Compound Interest

Interest is defined as the cost of borrowing money, and depending on how it is calculated, it can be classified as simple interest or compound interest.
6. Personal Finance

### How Interest Rates Work on Savings Accounts

Here's what you need to know to grow your rainy-day fund.
7. Personal Finance

### What is an Amortization Schedule?

An amortization schedule is a table that shows the amounts of principal and interest that comprise each loan payment.
8. Investing

### Accelerating Returns With Continuous Compounding

Investopedia explains the natural log and exponential functions used to calculate this value.
9. Personal Finance

### Understanding Term Loans

A loan from a bank for a specific amount that has a specified repayment schedule and a floating interest rate.
10. Personal Finance

### How Banks Set Interest Rates on Your Loans

Many factors go into how banks set interest rates for loans. Use this information to negotiate the best possible rate when you're borrowing.
Hot Definitions
1. ### Drawdown

The peak-to-trough decline during a specific record period of an investment, fund or commodity. A drawdown is usually quoted ...
2. ### Inverse Transaction

A transaction that can cancel out a forward contract that has the same value date.
3. ### Redemption

The return of an investor's principal in a fixed income security, such as a preferred stock or bond; or the sale of units ...
4. ### Solvency

The ability of a company to meet its long-term financial obligations. Solvency is essential to staying in business, but a ...
5. ### Dilution

A reduction in the ownership percentage of a share of stock caused by the issuance of new stock. Dilution can also occur ...
6. ### Agency Problem

A conflict of interest inherent in any relationship where one party is expected to act in another's best interests. The problem ...