Interest Rates and Your Home Mortgage

No one likes to think about interest rates but if you wish to ever have a credit card, take out a loan or obtain a mortgage, they are something you must consider. It is helpful if you understand what interest rates are all about.

There is principal and there is interest. The principal is the money that is borrowed while the interest is basically a fee that is tacked on regularly that is a percentage of what you owe. Think of it as a privilege (or in some cases, a penalty!) for borrowing money from another source.

Every debt involves interest. Interest continues to accrue for the complete duration of a debt’s life, until it is finally paid off. In the case of a 20 year mortgage for example, you will pay mainly interest in the beginning and will only start to pay on the principal much later on.

Interest rates are set by the banks but are also heavily impacted by the government and what is happening in the economy at any given time. Interest rates can be defined as “the exact percentage of the complete debt that is charged to a loan in interest.” It is an unfortunate fact of life that interest rates rise and fall and this is something that no one has any power to change.

Interest rates are a part of every personal loan, business loan, student loan, mortgage, credit card, phone bill, car payment, water bill, and so on. If you owe money on anything, you will have to deal with interest rates. The interest charged does tend to vary from loan to loan or bill to bill. In some cases, your credit history plays a role in how much interest you will pay.

Simple and Compound Interest

There are two types of interest- simple and compound interest. As the name implies, simple interest is the simplest to understand and explain. We will use simple interest in demonstrating the way that interest rates work.

Simple interest (also sometimes referred to as being flat rate interest) is a percentage of the money that is owed on a debt. The formula for calculating simple interest looks like this-
Interest = Principal x Rate x Time

Interest rates can sometimes be hard to understand and therefore an example would be fitting to make it clearer. If you take out a loan for $1000 and the annual interest rate is 20 percent then in a year’s time you would owe $200 in interest. To put it into a mathematical equation it would look like this-
1000 x .20 = $200.00.

Before applying for credit of any kind, always find out about the current interest rates being charged. In that way you will have a basic understanding of how interest is calculated and how interest rates are at the mercy of the changing tide of the economy.