Understanding the different types of interest is important for managing your finances and investments effectively. When it comes to investing, it’s essential to differentiate between earned, accrued, and paid interest. Let’s take a closer look at these three types of interest and explain how they work.
Earned interest is the rate of interest that an investment is earning for you.
If you invest $1,000 in an investment that earns 10% per year, for example, your earned interest that year will be 10%, or $100. You also need to consider compounding. From the example above, you earned 10% or $100 during that year. In the second year, you’ll earn interest on $1,100 (your initial investment plus the first year’s earning), which would be $110.
Knowing the rate of earned interest is important because it can help you determine the overall performance of an investment. As a result, you are able to evaluate the potential returns on different investment options.
Accrued interest, or interest balance, is interest that an investment is earning, but that you have not collected yet.
In a savings account, for example, interest on your balance accrues every day, but is only credited to your account at the end of the month. Your savings are earning that accrued interest every day, but you can’t spend the interest until the bank puts it into your account. A Yieldstreet investment that pays interest monthly works the same way. You accrue interest all month and you receive it on the payment date.
This is an important concept to know if you plan to buy or sell investment assets between payment dates.
Paid interest is the interest that has been paid to you. In other words, it’s the interest that you have received as payment into your account; at that point it is no longer accrued interest.
This type of interest is important because it represents the actual return on your investment. Knowing the amount of paid interest can help you better understand how much you’re earning on your investment and whether it’s meeting your financial goals.
In summary, earned interest is the interest earned on your investment over a specific period, accrued interest is the interest that an investment is earning, but you haven’t received it yet, and paid interest is the interest that you have already received as payment. Knowing the difference between these types of interest can help you better manage your finances and investments.
Last but not least. It’s worth noting that different types of investments have different tax implications. For example, the interest you earn on most savings accounts and bonds is taxable. But some types of accounts, like certain retirement accounts, allow you to defer taxes on the interest you earn. Understanding the tax implications of your investments can also help you make more informed investment decisions.
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