Chapter 10: Simple Interest
Polly Flin borrowed $5,000 for 60 days at 8%. On day 10, Polly made a $600 partial payment. On day 40, Polly made a $1,900 partial payment. What is Polly's ending balance due under the U.S. Rule (assuming a 360 day year)?
$2,551.81
$14,000 at 4% for 9 months
$420
U.S. Rule
Allows the borrower to receive proper interest credits. This rule states that any partial loan payment first covers any interest that has built up. The remainder of the partial payment reduces the loan principal. Courts or legal proceedings generally use the U.S. Rule
Principle
Amount of money that is originally borrowed, loaned, and deposited. (face vale of the loan)
Ordinary Interest 360 Days
Calculating simple interest using 360 days per year in time. Time= Exact number of days / 360 (ordinary interest)
Exact Interest
Calculating simple interest using 365 days per year in time.
Interest
Expense is the cost of borrowing money.
Time
Expressed as years or fractional years, used to calculate simple interest. For time, we count the exact number of days in the month that the borrower has the loan. The day the loan is made is not counted, but the day the money is returned is counted as a full day. Time= Exact number of days / 365 (Exact Interest)
Rate is ONLY expressed in decimals.
False. Rate is expressed as a decimal, fraction, or percent
There is only one method we can use to calculate simple interest when a loan specifies its beginning and ending dates.
False. There is two; Method 1) Exact Interest - 365 days Method 2) Ordinary Interest - 360 Days
When solving for principal, rate, or time, you are dividing. Interest will be in the denominator and the numerator will be the other two elements.
False. When solving for principal, rate, or time, you are dividing. Interest will be in the NUMERATOR and the DENOMINATOR will be the other two elements.
What supposedly happens when you use 360 days instead of 365 days?
It is supposedly simplified. However, the use of computers and calculators no longer makes the simplified calculation necessary.
What method do banks commonly use?
Ordinary Interest method; known as the Banker's Rule. Banks charge slightly higher rate of interest because they use 360 days instead of 365 in the denominator.
What is the principal when interest rate is 5%, time is 90 days, and simple interest is $8,000? Assume 360 days
P= I / R x T $640,000
Finding the Principal
Principal = Interest / Rate x Time
Maturity Value
Principle plus interest (if interest is charged). Represents amount due on the due date. Principle + Interest = MV
Finding the Rate
Rate = Interest / Principal x Time
What is the interest rate when time is 220 days, simple interest is $350, and principal is $7,000? Assume 360 days.
R= I / P x T 8.18%
On Mat 4, Dawn Kristal borrowed $15,000 at 8%. Dawn must pay the principal and interest on August 10. What are Dawn's simple interest and maturity value if you can use the exact interest method?
Simple Interest = $322.19 MV= $15,322.19
Calculate ending balance
Step 1: Calculate interest on principal from date of loan to date of first principal payment. Round to the nearest cent. I =P x R x T Step 2: Apply partial payment to interest due. Subtract remainder of payment from principal. This is the adjusted balance (principal). Step 3: Calculate interest on adjusted balance that starts from previous payment date and goes to new payment date. Then apply Step 2. Step 4: At maturity, calculate interest from last partial payment. Add this interest to adjusted balanced.
Who uses Method 1: Exact Interest 365 Days?
The Federal Reserve banks and the Federal Government
Simple Interest
The cost of a loan, usually for 1 year or less. Simple interest is only on the original principle or amount borrowed. Simple Interest = Principal x Rate x Time
Finding the Time
Time (in years) = Interest / Principal x Rate
What is time always over?
Time is always over what makes up one year. # of days/ 360 or 365 # of weeks/ 52 # of months/ 12 # of quarters/ 4
Do not round intermediate answers. Round only the final calculation.
True.
Time is expressed in years or a fraction of a year
True.
When dealing with a fraction (or part) of a day, always round up to a full day even if the number being rounded is less than 5.
True.
When should you use Ordinary Interest?
Use Ordinary Interest any time a problem does not specify to use Exact Interest.
What should you do when the number of days has a decimal?
Whole numbers in time represent full years. No adjustment to the time calculation is needed. However, when the calculation for number of days includes a decimal, multiply by 360 or 365 as indicates, to calculate the number of days the decimal represents in a year.
