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Compound interest (or compounding interest) is the interest on a loan or deposit calculated based on both the initial principal and the accumulated interest from previous periods. Compound interest can be thought of as "interest-on-interest," and will make a sum grow at a faster rate than simple interest, which is calculated only on the principal amount.
The rate at which compound interest accrues depends on the frequency of compounding, such that the higher the number of compounding periods, the greater the compound interest. Thus, the amount of compound interest accrued on $100 compounded at 10% annually will be lower than that on $100 compounded at 5% semi-annually over the same time period. Since the interest-on-interest effect can generate increasingly positive returns based on the initial principal amount, it has sometimes been referred to as the "miracle of compound interest." Share today's term with your network:
Image courtesy Getty Images/small smiles Why is 'Compound Interest' Today’s Term? As part of financial literacy month we chose compound interest as today’s term because it is a common feature of both deposit accounts and many types of loans. Since compound interest is calculated on the initial principal amount of a deposit or loan plus any accumulated interest at some periodic interval, it can have a snowball effect of growing the amount saved or borrowed much faster than simple interest. For example, most credit cards charge compound interest on average daily balances. This frequency of compounding greatly amplifies the outstanding balances owed if carried forward from month to month and illustrates why many people find themselves in perpetual debt. Luckily, most other types of loans that charge compound interest do so on a less frequent basis. On the deposit side of the ledger, compound interest can be of great benefit to savers if harnessed.
Benjamin Franklin was fascinated with the concept of compound interest, so much so that he created an experiment to demonstrate its remarkable power to support his passion for civic virtue. In his will, he directed his estate to set up two structured philanthropic trusts with 1,000 pounds each at the time of his death in 1790. These trusts, designated to expire exactly 200 years after his passing, were to be used to make small loans to apprentices and entrepreneurs as well as to support the common good through civic programs in the cities of Boston and Philadelphia. Despite consistent disbursements and political mismanagement over two centuries, both funds closed in 1990 with a combined value of $6.5 million.
-Ben 
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