How compound interest works
Compound interest means you earn interest on your interest. In year one, a $10,000 deposit at 7% earns $700. In year two you earn 7% on $10,700 - $749 - and the gap widens every year. Over decades this snowball effect does most of the work: with $500 monthly contributions at 7% for 20 years, more than a third of your final balance is interest, not money you put in.
The formula
For a lump sum, the future value is:
where P is the starting amount, r the annual rate, n the number of compounding periods per year, and t the number of years. This calculator also adds your monthly contributions at the end of each month and compounds them at the equivalent monthly rate.
Frequently asked questions
What is compound interest?
Interest earned on both your original deposit and on previously earned interest. It makes savings grow exponentially over time.
How often should interest compound?
More frequent compounding helps slightly, but the difference between monthly and daily compounding is small. Rate and time in the market matter far more.
What rate of return should I assume?
Savings accounts typically pay 3-5%; long-run stock returns have historically averaged 7-10% before inflation but are not guaranteed. Plan with a conservative number.