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APY means annual percentage yield. The majority of savings accounts have APY, also you can find that some of the checking accounts have it. If you are considered of saving money on your bank account you should know more about APY.
APY is the amount of money or interest, you receive on a bank account. The compound interest is added also. As a difference from interest rate APY is factoring compound interest.
Interest rate means that you can earn exactly the same amount of interest per month because it doesn’t compound.
Compound interest, on the other hand, is the interest you earn on the money you set into your bank account plus the interest you get overtime.
Basically, it is the income you can get on your money savings if you leave it in the account for longer than one year.
To make APY simpler.
Let’s say you put $20,000 in your savings account and the APY is 3%. After one year, your balance will increase by 3%. The amount you will have after one year in a total is $20,600. This is the basic concept of how it works.
This calculation becomes a bit complicated if you withdraw or deposit more money during the given year.
The higher savings account APY, the better. Maybe you can find some online bank offering above 1.50% but one thing is important, the national averages vary from country to country. It can be from, say, 0.8% to 3%, somewhere even more.
If you like to calculate it yourself, there are a few ways you can do that.
The basic formula for APY is
APY = (1+r/n)^n – 1
r is the interest rate per year
n is the number of compounding periods
Also, you can do it using a simple spreadsheet. This is probably the better option because it provides you to plug in different numbers. So, you can easily see how the variables, like compounded interest daily, quarterly, or monthly influence your APY.
Why it is important for your pocket?
Well, the higher the APY, the quicker your balance rises. For example, you have two alike interest rates. The more often interest is compounded, your APY will be higher. The final consequence is more savings for you.
Let’s do some math again.
Well, interest is paid out once a year. Basically, it is paid out on a monthly basis. But you will not receive 2% every month. To calculate how much interest you will receive per month, you have to divide APY by 12. We have 12 months in one year, right?
Let’s go back to our example and find how much interest you will earn in one month.
Our theoretical account offers 3% over one year. To find how much it gives per month we have to divide that amount in percentage by 12 months. Our 3% divided by 12 is 0.25%.
Now, we found the account gives 0.25% interest per month. The next step is to apply 0.25% to the balance of $20.000. The final result is $20.600. Your account is bigger for $600 per year.
That’s how APY influence your savings. Over time you will buy a house. How long it will take?