How to calculate effective annual interest rate?
Answer:Firstly, the effective annual interest rate is also called effective interest rate, or annual equivalent rate (AER), and is different from the APR - annual percentage rate. How to calculate effective annual interest rate if you know the nominal interest rate and the number of compounding periods?
Effective annual interest rate = (1 + R / P) P - 1 ,
where R is the nominal rate and P is the number of compounding periods.
For example, a loan with 8.25% nominal interest calculated monthly will have 8.57% effective annual rate.
Calculating effective annual interest rate differs form calculating nominal rate. The nominal rate is calculated as you multiply the number of periods times the interest for the period. For example, 1% monthly interest times 12 is 12% nominal interest rate.
Calculating annual interest rate is necessary as the interest for different loans can be calculated based on a daily, weekly, monthly or quarterly basis. The effective annual interest rate is used to compare loans with different compounding periods. A loan whose effective rate is based on daily compounding will have significantly higher rate than a loan based on monthly compounding.
You should distinguish simple interest and compound interest (the effective annual interest rate can be referred to as annual compound interest).
Final piece of advice: Monitor your credit report and score regularly, to ensure there are no inaccuracies or unauthorized activity. Your credit report and score are the two major methods that creditors and lenders use to make a credit decision about you. Higher scores usually mean lower interest rates, which will save you money.
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