What is accrued interest?
When it comes to accrued interest, the term can mean two different things. In one scenario, it can mean an increase in investment income or savings. But if you’ve borrowed money, it can mean an increase in the debt you owe.
If you’re wondering what accrued interest is all about, read on for all the details.
Key takeaways
- Accrued interest is unpaid interest related to credit cards, loans, investments, savings and beyond.
- When it comes to personal finance, accrued interest can be owed or earned.
- Accrued interest on a loan or credit card adds to how much a borrower owes.
- Accrued interest on a savings account or an investment earns income.
How accrued interest works
Accrued interest is based on a lot of factors, including the principal on a debt or an investment, the interest rate, timing and more.
Generally, when a person borrows money, accrued interest will increase what they owe. That’s usually the case with credit cards, mortgages and student loans. But when it comes to things like investments and savings accounts, accrued interest means interest is being earned.
The difference between interest and accrued interest
You may wonder: What’s the difference between regular interest and accrued interest? The two are related. It’s mostly a matter of timing.
Accrued interest is the interest that builds over time before it’s earned or owed. Once accrued interest becomes available, that’s when it might be referred to as regular interest or paid interest.
Types of accrued interest
When it comes to personal finances, it might help to break down a couple of examples to show how interest accrues.
Accrued interest when borrowing
For loans, interest is the cost of borrowing money. As interest accrues, it’s typically added to whatever amount is borrowed and any other charges.
When it comes to credit cards, interest is the same as the annual percentage rate (APR). Interest can accrue differently depending on the type of transaction. But one way to reduce the amount of interest you’re charged is by paying off your balance on time every month.
Accrued interest when saving or investing
For saving or investing, interest that accrues is typically being earned. As with borrowing, interest accrues based on the rate and how much money is saved or invested.
By knowing a few key details, you can calculate interest on a savings account.
Bonds are one example of an investment. When someone purchases a bond, they’re basically loaning money to the government or company they purchased it from. As the bond matures, interest accrues based on the initial investment.
How accrued interest is calculated
How accrued interest is calculated can depend on the product. One of the easiest ways to calculate the interest is to use an accrued interest calculator. But doing some quick math yourself might help you get an idea.
Accrued interest formula
While there are other factors to consider, here’s a general formula to calculate the interest for a loan:
Loan Amount x (Interest Rate / Number of Days in the Year) x Accrual Period
To understand how accrued interest applies to your specific situation, consider reaching out to your lender or a professional.
Accrued interest in a nutshell
When it comes to accruing interest, you’re either earning it or paying it. Although learning about how interest works may seem complicated, understanding why and how it’s calculated can help you learn more about managing money.