What Is Interest? (Explained Simply)
Interest is the cost of borrowing money.
When you borrow money, the lender charges interest as a fee for letting you use their money. When you save money, interest can also work in your favor — banks may pay you interest for keeping money with them.
Interest in the Simplest Terms
Think of interest like rent.
You’re renting money for a period of time, and interest is what you pay for that rental.
How Interest Works When You Borrow
When you take out a loan or use a credit card:
- You receive money
- You pay it back over time
- You pay extra — that extra is interest
The amount of interest depends on:
- The interest rate
- How much you borrow
- How long you take to pay it back
Simple Example
If you borrow $1,000 at 10% interest for one year:
- You borrowed: $1,000
- Interest: $100
- Total paid back: $1,100
That $100 is the cost of borrowing the money.
Interest vs APR
Interest and APR are related, but not the same.
- Interest rate: The cost to borrow the money
- APR: Interest rate plus most fees, shown yearly
This is why APR is usually higher than the interest rate.
Interest on Savings
Interest isn’t always bad.
When you put money in a savings account, the bank may pay you interest. In this case, the bank is borrowing your money — and paying you for it.
Why Interest Matters
Understanding interest helps you:
- Avoid expensive loans
- Compare financial options
- Save money over time
Even small differences in interest rates can cost or save you thousands over time.
Bottom Line
Interest is simply the price of using someone else’s money.
Lower interest = lower cost.
Always pay attention to interest rates before borrowing or saving.