How compound interest works

Compound interest is when you earn interest on both the money you’ve saved, plus you earn interest on your interest. And that continues to grow. Compound interest does the work for you, so you feel like it’s all going in the right direction without much effort. 

It might not be widely understood, but it can be powerful when it comes to planning for your future – especially if you start early.

With simple interest, you only earn interest on your initial deposit and it’s not added to the closing balance. For example, if you take out a $10,000 term deposit for two years and have the interest paid out each quarter, you only earn interest on the initial $10,000 deposit.

But with compound interest, it’s like a snowball effect. For example, if you invested that same $10,000 in a term deposit for two years but chose to have your interest reinvested each quarter, you earn:

• Interest on your initial $10,000 deposit 
• Plus any interest you’ve earned. 

Yes, that means you earn interest on your interest.

If you’re investing money in a term deposit or term PIE, for terms of 180 days or more, you can choose whether you want to have your interest paid out regularly or reinvested (compounded).

It costs you nothing to have your interest reinvested – but it will earn you more interest. 

If you’re thinking of investing some of your hard-earned money in a term deposit, reinvesting your interest at regular intervals could be a smart way to boost your return.