What is the effective annual interest rate?
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Whatistheeffectiveannualinterestrate?
The effective annual interest rate is the actual interest rate that is earned or paid on an investment or loan, taking into account the effect of compounding over a year. It is expressed as a percentage and is calculated by using the formula:
Effective annual interest rate = (1 + (nominal interest rate / number of compounding periods)) ^ number of compounding periods - 1
For example, if the nominal interest rate is 6% and the interest is compounded monthly, the effective annual interest rate would be:
(1 + (0.06 / 12)) ^ 12 - 1 = 6.17%
This means that the investment or loan will earn or cost 6.17% per year, taking into account the effect of compounding.
Effective annual interest rate = (1 + (nominal interest rate / number of compounding periods)) ^ number of compounding periods - 1
For example, if the nominal interest rate is 6% and the interest is compounded monthly, the effective annual interest rate would be:
(1 + (0.06 / 12)) ^ 12 - 1 = 6.17%
This means that the investment or loan will earn or cost 6.17% per year, taking into account the effect of compounding.
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