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As your savings get larger, compound interest works faster, making it one of your most powerful wealth-building tools. Use our calculator to find out how much you could earn with compound interest.
How do banks calculate compound interest?
With most savings accounts, interest is calculated every day on your daily closing balance.
Compound interest formula
Here’s the equation that most banks use for savings accounts:
(Daily closing balance) x (interest rate) 365
Interest begins to accumulate on the day of your first deposit. It’s then credited to your account on the last day of each month. If you close your account, your accrued interest is deposited on the day it’s closed.
Any interest awarded to your savings account is typically available for use on the same day it’s credited.
Use our compound interest calculator
How can I figure out compound interest?
Compound interest is a complicated calculation that’s often easier left to online calculators designed for that purpose. Still, you can refer to the same formula banks use to calculate your compound interest:
Daily closing balance x interest rate percentage / 365
Say you invest $1,000 with an interest rate of 10% compounded annually for 5 years. Using the compound interest formula, you’ll find that your initial investment of $1,000 earns $100 after the first year, giving you a total of $1,100.
That amount will then grow by 10% the following year, bringing your balance to $1,210. This amount is compounded the third year, and so on. After 5 years, your original balance would have grown to $1,610 due simply to compounding interest.
How does compound interest work in technical terms?
Think of compounding as a way of earning interest on your interest. The amount you invest in a savings account earns interest, which is rolled into the total investment. The total investment continues earning interest – only this time, on a bigger balance than before.
Compound interest differs from simple interest, which is typically associated with loans. For loans, simple interest is calculated on the principal — or the original loan amount – only. Interest is not part of the calculation.
Again, it’s complicated. But we can get an idea of the benefits of compound interest on your savings by analyzing the mathematical formula associated with it:
Here’s what those symbols represent:
A – the future value of your total investment, including earned interest
P – your initial deposit amount or principal investment
r – the interest rate annually as a decimal
n – how often interest is compounded each year
t – the number of years the money is invested for
For most savings accounts, your interest is compounded monthly – or 12 times in a year. For long-term savings products, like Guaranteed Investment Certificates (GICs), the formula or compounding period may differ.
Example: How compound interest helps your savings grow
To better understand the benefits of compound interest, take a look at the following example:
Here, Miles deposits $5,000 into a standard savings account that pays interest at a rate of 1.5%.
Interest is calculated daily and deposited into the account at the end of each quarter:
Principal (P)
Rate (r)
Compound (n)
Time (t)
Interest earned after 1 year
$5,000
1.5%
4
1
$75.42
At that same rate for the next 5 years, here’s how much he’ll earn:
Principal (P)
Rate (r)
Compound (n)
Time (t)
Interest earned after 5 years
$5,000
1.5%
4
5
$388.66
If interest is paid annually, here’s where Miles’s interest earnings would stand after 5 years:
Principal (P)
Rate (r)
Compound (n)
Time (t)
Interest earned after 5 years
$5,000
1.5%
1
5
$386.42
If interest is compounded daily, here’s interest earnings after 5 years:
Principal (P)
Rate (r)
Compound (n)
Time (t)
Interest earned after 5 years
$5,000
1.5%
365
5
$389.41
Note that for accurate calculations, you can’t account for any withdrawals or fees deducted from the balance over the period you’re calculating. Adding to your balance also changes your results. (That’s why we said it’s complicated!)
A savings account with compound interest can help you reach your financial goals sooner – all you have to do is just let your money sit in the account. Most of today’s savings accounts use compound interest, but you should check the terms and conditions to be sure. Or, you can compare some of our top-rated options to find out about other popular savings accounts on the market.
Compound interest FAQs
A compounding period is the amount of time that elapses before interest is paid and added to your balance. An account that has a monthly compounding period would pay interest every month. A greater number of compounding periods will allow your balance to grow faster.
Compound interest is usually paid automatically into your account, at the date according to your account's compounding period.
Yes, but not on savings accounts. Some loans may have compound interest instead of simple interest, meaning you will be paying your lender interest on the outstanding balance rather than just the amount you originally borrowed.
No, but most of them do. Speak with your financial institution or read the terms and conditions to find out if your account pays compound interest.
Peter Carleton is a writer that covers banking and investing, breaking down what you need to know about where you put your money. When Peter's not thinking about cutting-edge banking apps and robo-advisors, he runs a creative agency and spends his spare time cooking or reading.
Compare examples of interest rates charged by some of Canada’s top banks and credit unions for popular products like credit cards, personal loans, savings accounts and GICs.
Just like any other source of income, interest earned on a savings account is taxable. Find out how interest is taxed and how to save on taxes using tax-savings and tax-deferred savings accounts.
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