Simple interest versus compound interest
Simple interest is calculated only on the original principal. Compound interest is calculated on the principal plus interest already added. With investments, the same idea is often called compound growth; returns are not guaranteed and do not arrive in a smooth line.
A simplified example
If $1,000 grows by 5% in year one, it becomes $1,050. If the second year also earns 5%, the new gain is calculated from $1,050, producing $1,102.50. The extra $2.50 reflects growth on the first year's growth. Real markets can rise or fall and sequence matters.
The four main levers
- Starting amount: more principal begins compounding sooner.
- Contributions: regular deposits may matter more than return-chasing.
- Time: longer periods create more compounding opportunities.
- Net return: the amount left after fees and taxes drives the result.
What a simple calculator leaves out
Inflation reduces purchasing power. Fees reduce the amount that remains invested. Taxes depend on account type and circumstances. Volatility means the path is uneven. A projection should therefore be treated as a scenario, not a promise.
Use projections responsibly
- Run low, middle, and high return scenarios.
- Compare the effect of contributing more with assuming a higher rate.
- Use a real return assumption if your question is about future purchasing power.
- Check fees, diversification, tax rules, and account restrictions separately.
Try the compound interest calculator →
Official learning source
The US Securities and Exchange Commission provides investor education and an independent compound interest calculator on Investor.gov.