What is Interest and How is it Calculated?
Interest is the cost paid for the use of money over a period of time. In banking, it represents the income you earn from deposits and the cost you pay on loans. Understanding and calculating interest correctly is a fundamental financial skill for comparing investment returns, anticipating loan costs, and maximizing your savings.
Difference Between Simple and Compound Interest
There are two fundamental methods of calculating interest: simple and compound. Which method is used can dramatically change your long-term earnings or costs.
📐 Simple Interest
Interest = Principal × Rate × Time
Interest is applied only to the principal. The interest earned remains constant each period.
Example: 100,000 × 40% × 1 year = 40,000 TL interest → Total: 140,000 TL
📈 Compound Interest
Total = Principal × (1 + r/n)^(n×t)
Each period's interest is added to the principal, creating a new base for the next period. This is how "interest on interest" works.
Example: 100,000 at 40% monthly compounding → ~149,146 TL (9,146 TL more!)
Deposit Interest vs. Loan Interest
In everyday life, interest appears in two different ways: deposit interest paid by the bank to you, and loan interest you pay to the bank. Both are based on the same mathematical formula — but the parties are reversed.
💡 Practical Interest Tips
- For deposits: Monthly compounded accounts always yield more than simple annual rate accounts.
- For loans: The "annual interest rate" (APR) and "annual cost rate" banks advertise differ — the cost rate includes fees and expenses.
- Inflation effect: Subtracting inflation from the nominal rate gives you the "real interest rate." A negative real rate means your purchasing power is declining.
- Duration effect: With compound interest, the effect grows exponentially with time. At 10% compound interest, money grows 2.6x in 10 years, and 6.7x in 20 years.
Compound Interest Calculation Examples
The table below shows the value of 100,000 TL after 1 year at 30% annual interest with different compounding periods:
| Compounding | Interest | Total |
|---|---|---|
| Simple (Annual) | 30.000 TL | 130.000 TL |
| Annual Compound | 30.000 TL | 130.000 TL |
| Semi-annual | 32.250 TL | 132.250 TL |
| Monthly Compound | 34.489 TL | 134.489 TL |
| Daily Compound | 34.969 TL | 134.969 TL |
Frequently Asked Questions
What is the difference between simple and compound interest?
With simple interest, interest is calculated only on the principal. With compound interest, interest earned each period is added to the principal and earns interest itself. Compound interest grows significantly more over long periods.
What is the interest calculation formula?
Simple interest formula: Interest = Principal × Annual Rate × Time. Compound interest formula: Total = Principal × (1 + Rate/n)^(n×t). Where n = compounding periods per year, t = years.
How do I convert monthly interest rate to annual rate?
Approximately, multiply monthly rate by 12. For precision: Annual Rate = (1 + Monthly Rate)^12 - 1.
How much do I earn on 100,000 TL at 40% annual interest after 1 year?
With simple interest: 100,000 × 0.40 × 1 = 40,000 TL interest, total 140,000 TL. With monthly compounding: 100,000 × (1 + 0.40/12)^12 ≈ 149,146 TL.
Is interest income subject to tax?
In Turkey, withholding tax applies to bank deposit interest. As of 2024, the rate varies depending on certain thresholds. It is recommended to consult a tax advisor for precise information.