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CAT Quant Tricks: Compound Interest in Focus

Focus Topic: Compound Interest (Arithmetic/Commercial Mathematics)
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In the first seven days of this course, we have covered two topics:

  • Percentages
  • Simple Interest

With the help of these articles and posts, we highlight important CAT Quant Tricks that you can use to solve questions and score well in the CAT Exam. Remember, the best way you to gain from these CAT quant tricks is when you put these in practice and use them for solving questions.

With this article, we shift to the third topic for your preparation, Compound Interest.

Simple Interest in not the only way to calculate interest.

Compound Interest: Basic Definition and Formula

What is the difference between simple and compound interest? As you learnt that in the simple interest, the interest is paid only on the principal amount every time interest is calculated. But in the case of compound interest, the principal amount changes every time. This is because the interest is added to the principal every time and we get new principal for each time interval. As the interest is adding or compounding to the principal, so it is called compound interest. Effectively, you pay interest on the interest amount as well!

Let us understand this concept with an example. Let us say that a man borrows Rs 1000 at 10% rate of interest for 3 years. Let us calculate both simple and compound interest.

Let us say that a man borrows Rs 1000 at 10% rate of interest for 3 years. Let us calculate both simple and compound interest.

As the Simple interest for each year will be calculated on the original principal of Rs 1000, so it will be 10% of Rs 1000 or Rs 100 for each year i.e. Rs 300 for 3 years.

For compound interest, this calculation changes.

For the first year the principal is Rs 1000 and the interest will be 10% of 1000 i.e. Rs 100.

Now for the second year, the interest of first year will be added to the original principal.

So, the principal for second year will be 1000 + 100 = Rs 1100 and the interest for the second year will be 10% of 1100 i.e. Rs 110.

In the third year, the interest of second year will be added to the principal of the second year and we get the principal of third year as 1100 + 110 = Rs 1210. The interest for the third year will be 10% of Rs 1210 i.e. Rs 121.

Hence, the total compound interest for 3 years will be 100 + 110 + 121 = Rs 331.

Do solve the question on Compound Interest posted below. It requires you to understand the problem and figure out a logical solution.

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With this, we complete the introduction for Compound Interest. Time for you to take up the preparation resources for the day now.

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