How to understand and calculate interest

Discussion in 'Archived Threads 2001-2004' started by Marshall Alsup, Jul 18, 2002.

  1. Marshall Alsup

    Marshall Alsup Second Unit

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    Hey guys,
    I want to learn to understand and caluclate interest so I can understand my credit cards and other interest related things better.

    For credit cards how do they get the interest charge every month? If the interest is 19% does that mean that you pay $19 on ever $100 you owe per year? If so, how does this factor into the interest charged each month? How does the fact that a person pays payments each month factor into this?

    When you buy a major purchase like a car or property is the interest figured in from the beginning? So if you have a $100,000 loan and say the interest is 10% so about $10,000 does that mean they just take the $110,000 and split it up over 20 years or is the interest on a per year or month basis?

    How does this kind of interest the same as or different than the interest banks give you on savings accounts or CDs?

    I know thats a lot of questons but I dont know about this stuff very well and I'd like to learn so I can better understand how to spend my money, and make my money work for me!

    What are some good websites or books that talk about this stuff?

    Thanks,
    -Marshall
     
  2. Bill Slack

    Bill Slack Supporting Actor

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    Most high credit devices (like credit cards) are quoted with annual percentage RATE which is monthly compounded interest, multiplied by 12 (if paid monthly). So a 24% APR is actually 2% monthly interest. So, you're actually paying 2% interest every month, so you end up paying interest, on your interest payment.
    So, your 19% APR is actually higher than $19 per $100. I don't know if specifying amount this way is legal in all states. It shouldn't be legal in any states, imo!
    Always look at the APR to compare loans though, just read it carefully to see how it is compounded. Everyone must state APR now. The actual rate of the loan may be lower, but fees can bring the actual rate (APR) higher. Look for things like annual fees on credit cards too.
    Now, when you take our a loan, they tell you the APY. The annual percentage YIELD. If your APY is 5% on $1000, at the end of the year you'll have earned $50 in interest, even if this rate is actually compounded monthly. With a 5% APR loan of $1000, your interest paid would be $51.20 when compounded monthly.
    Pretty shady, eh?
    Ok, now look at credit cards more closely:
    You carry a balance on your high-interest CC for 5 years @ 20% APR, compounded monthly. You are paying 169.6% of the balance you carry over that five years.
    Now, if that was 20% APY instead, you would 'only' be paying 148.83% of the balance carried in interest.
    So, you can see why the list things the way they do. The way it's listed now actually isn't bad, at all, as long as you understand how it's done. It used to be worse before recent (~1996) law changes.
    So, don't carry big credit card balances. It's even worse than you think! [​IMG]
     
  3. Marshall Alsup

    Marshall Alsup Second Unit

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    Too late, I already carry them :b

    However, within A year I expect to have get a job that pays A LOT more then I currently get (I'm going to graduate) and I want to learn about this stuff before I start making the "big bucks".

    -Marshall
     
  4. Chris Lock

    Chris Lock Second Unit

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    A dirty little secret about credit card interest is that once you have a balance (i.e., don't pay the full balance every month), interest gets charged from the day of purchase, not the billing date.
    Let's say you put $200 a month on your card, but always paid the bill in full. You'd pay no interest. Then one month you only pay $199. Now although your balance is only $1, interest will get charged on everything until you again pay off the full balance. So you not only pay interest on the balance left over from your last bill, but the meter is now running on the lunch you charged today. (But the lunch I charged today is interest free since I always pay the full balance. [​IMG] )
    Also, APR is rather meaningless on long-term loans like mortgages, because there are different ways of calculating it, & it assumes you will have the loan for the full term, which rarely happens.
     
  5. Ashley Seymour

    Ashley Seymour Supporting Actor

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  6. Mark Philp

    Mark Philp Second Unit

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    Marshall, do yourself a favor and get rid of those high interest credit cards. Anyone,with decent credit should be able to get one with an interest rate of under 10%. I've got one with a fixed rate of 7.99%. Credit card companies love college guys, because most of them run up their cards while in school and just keep paying and paying. I work with a guy who got a card in college at 21% about 20 years ago, he still uses it and still pays 21%. A simple call to the credit card company and a suggestion that he'll transfer to another card would most likely get that rate knocked down by 9 or 10 points.
     
  7. Jonathan Smith

    Jonathan Smith Stunt Coordinator

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    You can also easily look at these kinds of things in spreadsheets. In Excel, check out the PV worksheet function. The help on that even gives one of the several formulae that are used in what I learned as "engineering economics". I'm sure there are other names for it. It also tells you about all the related functions.
    If you want to understand where all the formulae come from, the math isn't all that hard. Here is a decent website . There's a bunch of stuff you won't be interested in at the top, but keep scrolling until you get to the interest stuff.
     
  8. Marshall Alsup

    Marshall Alsup Second Unit

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    I've been through Calc and DifEQ so I'm not worried about the math, I just dont know the equations or how they use them in everyday situations.

    Thanks for the replys! Some good stuff here. I never thought of checking out Excel to check this out, thats a great idea.

    Jonathan, thanks for the link.

    -Marshall
     
  9. Mark R O

    Mark R O Stunt Coordinator

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    Marshall,
    Say you have a credit card debt of $4500, make $50 in purchases every month, and make $125.00 min. payment monthly at 22%. How long until you pay it off?
    Answer, never!At 65 you will have paid back $60,000 and still owe over $4500.00
    Borrow from the mob, the rates are better than prime interest installment loans.
     
  10. Larry Price

    Larry Price Stunt Coordinator

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  11. Marshall Alsup

    Marshall Alsup Second Unit

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    Thanks Larry, that looks perfect.

    -Marshall
     

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