1. What is Effective Interest Rate?

The effective interest rate (EIR) is the actual interest rate that an investor earns or a borrower pays after accounting for compounding over a given period. It differs from the nominal rate which doesn't consider compounding frequency.

2. How Does the Calculator Work?

The calculator uses the effective rate formula:

Where:

• \( i \) — Nominal interest rate (as decimal)
• \( n \) — Number of compounding periods per year

Explanation: The formula accounts for compounding by raising the periodic rate to the power of compounding periods.

3. Importance of Effective Rate Calculation

Details: The EIR provides a true comparison between financial products with different compounding periods. It's essential for accurate financial planning and investment decisions.

4. Using the Calculator

Tips: Enter the nominal annual interest rate (as percentage) and the number of compounding periods per year (e.g., 12 for monthly).

5. Frequently Asked Questions (FAQ)

Q1: Why is effective rate higher than nominal rate?
A: The effective rate increases with more frequent compounding because interest earns interest more often.

Q2: What's the difference between APR and EIR?
A: APR is typically the nominal rate, while EIR includes compounding effects.

Q3: How does continuous compounding work?
A: Continuous compounding uses the formula \( e^{i} - 1 \) where e is Euler's number (~2.71828).

Q4: When is nominal rate equal to effective rate?
A: When interest is compounded annually (once per year).

Q5: What are common compounding periods?
A: Annual (1), Semi-annual (2), Quarterly (4), Monthly (12), Weekly (52), Daily (365).