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Simple Interest
Definition
Simple interest is interest calculated only on the original principal amount, not on accumulated interest from previous periods.
Explanation
Simple interest is straightforward: Interest = Principal × Rate × Time. It does not compound, so the interest earned each period is constant. Simple interest is commonly used for short-term loans, auto loans, and some bonds.
The key difference from compound interest is that simple interest does not grow exponentially. Over long periods, the difference between simple and compound interest is enormous. For short-term borrowing (under a year), simple interest is standard.
Example
A $10,000 loan at 5% simple interest for 3 years costs $500 per year in interest = $1,500 total. No compounding means no growth on interest.