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How Much is My Interest Expense?
This is a guest post by Eden Laura Quirino
So you want to apply for a loan? Whatever your intended purposes are, to finance your business working capital or buy your home, you have to understand the concept of interest because it will affect your bottom line. On the other hand, if you are on the other side of the fence, enjoying a very liquid position, your take of "interest" is in the yields. You will want to know how much you are earning for your money.
To compute for interest, we apply the formula P*R*T. P stands for Principal, which is the starting point of the funds we are concerned about. If you are the borrower, this is the amount of your debt at the beginning. On the other hand, if you are the investor, this is the initial amount of money placement.
R stands for the Rate, or the price of your loan, or the yield of your investment. It is normally quoted on a per annual basis. Some marketers, in order to soften the blow to prospects, quote in terms of months, quarters or semesters, and then they downplay the actual term so that it is hardly noticed. Ensure that you understand what the rates are good for. If they are quoted for terms other than a year, annualize them. For example, a 3 percent every quarter rate is actually 12 percent. Especially, when comparing offers, ensure that they are all in the same comparable scale. Use the ANNUAL rate standard.
T stands for Term or the length of time it takes for the rate quoted to be applicable. This means you have to take into account the actual number of days that are applicable. For short term contracts, this may imply that the actual contracts are for less than a year, say 90 days. Your "term" then for purposes of computations will be 90/360. 90 is your actual number of days and the 360, your denominator equalizes it to the annual basis.
Let's cite a very simple example. Given that you have a 5-year loan of $1000 at 14 percent and are charged interest monthly, but your applicable interest rates are repriced quarterly.
Principal is $1000, Rate is 14 percent p.a., and term is 30 days (or 28,29 or 31, whichever is applicable) since we have to pay interest monthly. The computation would proceed as $1000 multiplied by 0.14 = $140. Then we take the $140 multiply it by 30 then divide it by 360 and we would obtain 11.67. That is the monthly interest expense. So for the quarter the interest would be 35. For the following term, you would have to update your calculations since the interest rate could be changed.
For your business, it really pays to know and understand how much you are actually charged for your debts or to know how much you are earning for your investments. Even bankers make mistakes so do remember to check your statements for accuracy of the entries and the calculations.
About The Author
Eden Laura Quirino makes extra money at home with a proven successful internet business. She used to work as a banker and later on as an administrator. She also offers free people search service for people based in North America. The author invites you to visit http://people-finder.biz
Tags: Personal - My Money