Simple and Compound

Interest
Objectives
At the end of the lesson, the learner is able to
1. Illustrate simple and compound interest;
2. Distinguish between simple and compound
interest;
3. Compute interest, maturity value, future value,
and present value in simple interest and
compound interest environment;
4. Solve problem involving simple and compound
interests.
Important Terms to Remember
• Lender or creditor – person (or institution) who invests
the money or makes the funds available.
• Borrower or debtor – person (or institution) who owes
the money or avails the funds from the lender.
• Origin or loan date – date on which money is received
by the borrower.
• Repayment date or maturity date – date on which the
money borrowed or loan is to be completely repaid.
Important Terms to Remember
• Time or term – amount of time in years the money is
borrowed or invested; length of time between the origin
or maturity dates.
• Principal (P) – amount of money borrowed or invested
on the origin date.
• Rate (r) – annual rate, usually in percent, charged by
the lender, or rate of increase of the investment.
• Interest (I) – amount paid or earned for the use of
money.
Important Terms to Remember
• Simple interest (Is) – interest that is computed on the
principal and then added to it.
• Compound interest (𝑰𝒄 ) – interest that is computed on
the principal and also on the accumulated past
interests.
• Maturity value or future value (F) – amount after t
years that the lender receives from the borrower on the
maturity date.
Simple Interest, Is
Simple interest is the interest paid or
computed on the original principal only of a loan or
on the amount of an account. An annual simple
interest is based on the three factors: principal
which is the amount invested or borrowed, simple
interest rate which is usually expressed in percent,
and time or term of loan, in years.
Simple Interest, Is
𝑰𝒔 = 𝑷𝒓𝒕
Where
𝐼𝑠 = 𝑠𝑖𝑚𝑝𝑙𝑒 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡
𝑃 = 𝑝𝑟𝑖𝑛𝑐𝑖𝑝𝑎𝑙
𝑟 = 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑟𝑎𝑡𝑒
𝑡 = 𝑡𝑖𝑚𝑒, 𝑖𝑛 𝑦𝑒𝑎𝑟𝑠
Examples
1. A bank offers 0.25% annual simple interest rate for a
particular deposit. How much interest will be earned if 1
million pesos is deposited in this savings account for 1
year?
Solution
Given: 𝐼 =?
𝑟 = 0.25% 𝐼𝑠 = 𝑃𝑟𝑡
𝑃 = ₱1,000,000 𝐼𝑠 = (1,000,000)(0.0025)(1)
𝑡 = 1 𝑦𝑒𝑎𝑟 𝑰𝒔 = ₱𝟐, 𝟓𝟎𝟎
Examples
2. When invested at an annual interest rate of 7%, an
amount earned ₱11,200 of simple interest in two years.
How much money was originally invested?
Solution
Given: 𝑃 =?
𝐼𝑠
𝑟 = 7% 𝑃=
𝑟𝑡
𝐼𝑠 = ₱11,200 𝑃=
11,200
(0.07)(2)
𝑡 = 2 𝑦𝑒𝑎𝑟𝑠
𝑷 = ₱𝟖𝟎, 𝟎𝟎𝟎
Examples
3. If an entrepreneur applies for a loan amounting to
₱500,000 in a bank, the simple interest of which is
₱157,500 for 3 years, what interest rate is being
charged?
Solution
Given: 𝑟 =?
𝐼𝑠
𝑃 = ₱500,000 𝑟=
𝑃𝑡
157,500
𝐼𝑠 = ₱157,500 𝑟=
(500,000)(3)
𝑡 = 3 𝑦𝑒𝑎𝑟𝑠 𝒓 = 0.105 or 10.5%
Examples
4. How long will a principal earn an interest equal to half
of it at 5% simple interest?
Solution
Given: 𝑡 =?
𝐼𝑠
𝑃=𝑥 𝑡=
𝑃𝑟
𝑥 𝑥
𝐼𝑠 = 2
2 𝑡=
(𝑥)(0.05)
𝑟 = 5%
𝒕 = 𝟏𝟎 𝒚𝒆𝒂𝒓𝒔
Maturity or Future Value, F
Many persons or institutions are
interested to know the amount that a lender
will give to the borrower on the maturity date.
For instance, you may be interested to know
the total amount of money in a savings
account after t years at an interest rate r. this
amount is called the maturity value or
future value F.
Maturity or Future Value, F
𝑭 = 𝑷 + 𝑰𝒔
𝑭 = 𝑷(𝟏 + 𝒓𝒕)
Where
𝐹 = 𝑚𝑎𝑡𝑢𝑟𝑖𝑡𝑦 𝑜𝑟 𝑓𝑢𝑡𝑢𝑟𝑒 𝑣𝑎𝑙𝑢𝑒
𝑃 = 𝑝𝑟𝑖𝑛𝑐𝑖𝑝𝑎𝑙
𝐼𝑠 = 𝑠𝑖𝑚𝑝𝑙𝑒 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡
𝑟 = 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑟𝑎𝑡𝑒
𝑡 = 𝑡𝑖𝑚𝑒 𝑖𝑛 𝑦𝑒𝑎𝑟𝑠
Example
5. What is the maturity value if 1 million pesos is
deposited in a bank at an annual simple interest rate of
0.25% after 5 years?
Solution
Given 𝐹 =?
𝑃 = ₱1,000,000 𝐹 = 𝑃(1 + 𝑟𝑡)
𝑟 = 0.25% 𝐹 = 1,000,000 [1 + 0.0025 5 ]
𝑡 = 5 𝑦𝑒𝑎𝑟𝑠 𝑭 = ₱𝟏, 𝟎𝟏𝟐, 𝟓𝟎𝟎
Compound Interest, Ic
Example
6. Suppose you have ₱10,000 and you plan
to invest it for 5 years. A cooperative group
offers 2% simple interest rate per year. A
bank offers 2% compounded annually. Which
will you choose and why?
Compound Interest, Ic
Solution
Investment 1:
Simple interest, with annual rate 2%
Compound Interest, Ic
Solution
Investment 2:
Compound interest, with annual rate 2%
Compound Interest, Ic
When interest yielded or earned is added to
the principal at regular time interval and the sum
becomes the new principal, then interest is said to
be compounded or converted.
At compound interest, interest earned at a
certain cut-off date is automatically reinvested to
earn more interest.
Maturity (Future) Value for a Compound Interest
𝑭 = 𝑷(𝟏 + 𝒓)𝒕
Where
𝑃 = 𝑝𝑟𝑖𝑛𝑐𝑖𝑝𝑎𝑙 𝑜𝑟 𝑝𝑟𝑒𝑠𝑒𝑛𝑡 𝑣𝑎𝑙𝑢𝑒
𝐹 = 𝑚𝑎𝑡𝑢𝑟𝑖𝑡𝑦 (𝑓𝑢𝑡𝑢𝑟𝑒) 𝑣𝑎𝑙𝑢𝑒
𝑟 = 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑟𝑎𝑡𝑒
𝑡 = 𝑡𝑖𝑚𝑒 𝑖𝑛 𝑦𝑒𝑎𝑟𝑠

The compound interest 𝐼𝑐 is given by 𝑰𝒄 = 𝑭 − 𝑷

Maturity (Future) Value for a Compound Interest
Example
7. Find the maturity value and interest if ₱50,000 is
invested at 5% compounded annually for 8 years.
Solution
Given 𝐹 =?
𝑃 = ₱50,000 𝐹 =𝑃 1+𝑟 𝑡
8
𝑟 = 5% 𝐹 = (50,000) 1 + 0.05
𝑡 = 8 𝑦𝑒𝑎𝑟𝑠 𝑭 = ₱𝟕𝟑, 𝟖𝟕𝟐. 𝟕𝟕
Present Value P for a Compound Interest
The present value or principal of the maturity value
F due in t years at any rate r can be obtained from the
maturity value formula 𝑭 = 𝑷(𝟏 + 𝒓)𝒕 .

𝐹 −𝒕
𝑷= = 𝑭(𝟏 + 𝒓)
(1 + 𝑟)𝑡
Present Value P for a Compound Interest
Example
8. How much money should a student place in a time
deposit in a bank that pays 1.1% compounded annually
so that he will have ₱200,000 after 6 years?
Given
𝑃 =?
𝑟 = 1.1% 𝑃 = 𝐹 1 + 𝑟 −𝑡
𝑡 = 6 𝑦𝑒𝑎𝑟𝑠 𝑃 = (200,000) 1 + 0.011 −6
𝐹 = ₱200,000 𝑷 = ₱𝟏𝟖𝟕, 𝟐𝟗𝟑. 𝟔𝟓