Question

1.   Compare the interest earned on $15,000 for 25 years at 7% simple interest with the amount of interest earned if interest were compounded annually.
2.   Bank A pays 6% simple interest on its savings account balances. Bank B pays 5.5% interest compounded annually. If you made a $10,000 deposit in each bank, which bank provides you more money at the end of 15 years?
3.   You are considering investing $1,000 at an interest rate of 6.5% compounded annually for five years or investing the $1,000 at 6.8 per year simple interest for five years. Which option is better?

Answer 1

Answer 1

	Principal	Interest formula	Interest	Amount= Principal + Interest
Option A Simple Interest	15000	15000 x 7% x 25	26,250.00	41250
Option B Compound Interest	15000	15000((1+0.07)^25)-15000	66,411.49	81411.48

The above calculations show that, if interest rates are same, the interest earned on compound Interest method $66,411 is much higher than the interest earned on simple interest $26,250.

Answer 2

	Principal	Interest formula	Interest	Amount= Principal + Interest
BANK A	10000	10000 x 6% x 15	9,000.00	19000
BANK B	10000	10000((1+0.055)^15)-10000	12,324.76	22324.76

At the end of 15 years, Bank A provides $19,000 whereas Bank B provides $22,324. Clearly Bank B provides more money.

Answer 3

	Principal	Interest formula	Interest	Amount= Principal + Interest
Option A Compound Interest	1000	1000((1+0.065)^5)-1000	370.09	1370.08
Option B Simple Interest	1000	1000 x 6.8% x 5	340.00	1340

Investing at 6.5% under a compound interest method for 5 years provides an interest of $370

Whereas, investing at 6.8% under a simple interest method for 5 years provides an interest of $340

Clearly the first option of compound interest is a better option.