In part 1 I gave an example that demonstrates why you should never get a simple interest rate loan. In this part I will show you pictures to illustrate the point and provide an excel file that has all the calculations.
The above chart shows the amount of interest paid for a simple interest loan and a compound interest loan at 7%. The loan is for $150,000. The payment is $1500 per month. The red area is the total compound interest paid. The blue area is the total simple interest paid. Notice that it includes the compound interest. With the simple interest the loan is paid off in 240 months or 20 years. With the compound interest it’s paid off in about 12 and a half years.
This chart shows you the remaining balance over time. You can see that the compound interest loan is paid off a lot quicker and saves a lot of money in interest.
This is the excel sheet with all the calculations: simple-vs-compound-interest
In the first month both loans cost $875 in interest. In the second month the simple interest loan still costs $875 in interest but the compound interest is down to $871.35 in interest.
This should make it even more obvious why you should never get a simple interest loan. A simple interest loan always costs far more money than a comparable compound interest loan.
To calculate your monthly payment for a simple interest loan take the daily rate times the number of years to pay it off times 365. Add the amount of the loan. Divide by the number of years you intend to pay it off in. Divide by 12. To calculate the monthly payment for a compound interest loan use BankRate.com.
Compare.
