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Interest Rate Calculation
Interest rate calculation vary from currency to currency, and they change on a daily basis.
There are two types of interest rate calculation that come in to play in this context: lending interest rates apply when
bank lends you money to buy a currency, and borrowing interest rates apply when
bank holds your money. Lending rates are always higher than borrowing rates (e.g., when the bank lends you money, it charges a higher interest rate than it gives you on the money on your accounts).
Interest rates are variable unless stated as fixed for a period of time.
When you are faced with a loan, the first issue to cross your mind would be the interest
rate calculation. However, just because two players are offering loan at an identical rate of interest, it does not necessarily mean that the cost of the loan is alike in both cases. On the other hand, if one is offering a slightly lower interest than the other, it need not indicate that the lower interest loan is a cheaper option. Welcome to the intricate world of interest rate
calculation. Two players offer you an identical rate of interest for the identical amount and identical repayment tenure. No need to toss a coin to make your choice. Just check out the method of computation: annual- or monthly-reducing basis? This difference will show up in your EMI.
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Interest rate calculation is done either on an annual-reducing, monthly-reducing, or daily-reducing basis.
Daily reducing basis means that the moment you make a payment, the very next day the interest is calculated on the balance principal. This will now be lowered since you have paid an amount.
Monthly-reducing basis means that principal amount you pay every month is deducted when calculating the interest rate for the following months.
Annual-reducing basis means that the total principal repaid by the end of the year is deducted when calculating the interest rate for the next year.
Interest rate calculation on a daily-reducing balance are done mainly on credit cards whereby whenever a payment is made, the principal is immediately deducted. In the case of monthly-reducing balance, it takes place the next month and in the case of annual-reducing basis, the next year.
Flat interest rate calculation
- In a nutshell, it is the most expensive loan you can ever take. But no player will calculate the rate of interest on a flat basis. Yes, they may state the flat rate of interest as it appears low: but that's just to trap you. So, when presented with the flat rate, ask for the method of calculation.
The interest rate calculation matters most if the loan is for a short tenure of a couple of years. The effect is nullified when one goes on to longer repayment tenures. So, if speed is of essence and the finance company with an annual-reducing balance is offering you a quicker processing time vis-a-vis one with a monthly-reducing balance payment, you can afford to ignore the difference in calculation. Especially, if your repayment tenure stretches for a number of years.
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California Mortgage Rate. |
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