How to Calculate APY

Whenever you buy something on credit or with a loan you see APR and APY as part of the pricing and repayment structure. Calculating APY will go a long way toward helping you understand what you'll really be paying. APY is also important when investing your money, as it works the same as when you're borrowing money, only in reverse. That is, you get to keep the extra money. It might seem a bit complex to understand but if you first know what APY is and do some simple math, you'll be calculating APY and likely making better deals.

Instructions

1. Understand what APY really means. APY stands for "annual percentage yield." "Annual" means yearly, or the calculation of costs over a year. "Percentage" is the cost in relation to a portion of the original amount. "Yield" relates to the total.

2. Know the difference between APR and APY. The annual percentage rate (APR) is the rate that you are being charged or the rate you will be paid if you're investing. APY is just APR after taking into account compound interest.

   If your rate is 12 percent than your monthly rate is one percent. But if you are being accessed this rate every month (compounded) over a year you wind up being charged more than 12 percent. The reason for this is that in the following month you are charged 1 percent on your original amount plus the 1 percent interest that you earned or accrued that was added from the previous month.

3. Get the numbers. You'll need the amount you are borrowing or investing, the APR rate and the number of times compounding occurs in a year, such as quarterly (4) or monthly (12) or some other number.

4. Do the math. The formula for calculating APY is APY = (1+R/N)N-1 where R is the interest rate in decimal form (12% would be 0.12) and N is the number of compounding periods per year and the second N is actually a superscript to be taken as a power.

   If the compounding was done monthly and the rate is 12 percent the equation would be APY = (1+0.12/12)12-1. To get the answer we first take .12 and divide it by 12, the answer is 0.01. Then we add 1 and the answer is 1.01. Then you must take 1.01 to the power of 12 which just means taking doing the following math 1.01 x 1.01 x 1.01 x 1.01 x 1.01 x 1.01 x 1.01 x 1.01 x 1.01 x 1.01 x 1.01 x 1.01 and the answer rounds to 1.127. Now subtract 1 and you have .127 which is 12.7 percent. Take your original amount and multiply that times your APY.

   For example if you invested $100 with a 12% APR you would have 12.7% APY. Multiply that times 100 and you would make $12.70 the first year, To figure out the total amount made for more than one year you would need to use the following formula. (APY+1)Y where Y is the number of year as an exponential power. So you would take .127 + 1, which is 1.127 to the Y power. For ten years that would be 3.305. So take that number times the original $100 and you will have $330.50 after ten years.

5. Use Excel. You can put the following formula into a Microsoft Excel sheet to calculate APY for you. =POWER((1+(A1/B1)),B1)-1 where A1 is the rate and B1 is the compounding frequency.

Tips & Warnings

• Take your time to do the calculations.