The formula
How to calculate effective interest rate
The effective annual rate is what a nominal rate is actually worth once compounding is taken into account. It is the number that lets you compare a savings account paying 6% monthly against one paying 6.1% annually without guessing.
Savings accounts publish this as the AER; loans and credit cards publish the same arithmetic as the EAR. Both answer the question "if this compounded exactly once a year instead, what rate would leave me in the same place?"
What to enter:
- Nominal annual rate (%) — the headline rate, before compounding
- Compounds per year
The result updates on every keystroke. The URL updates too, which makes the filled-in version easy to bookmark or send to someone else.
Worked example
Take the figures the calculator starts with:
- Nominal annual rate: 6 %
- Compounds per year: 12
That gives:
- Effective annual rate: 6.1678 %
- Uplift over nominal: 0.1678 percentage points
- Rate per period: 0.5 %
Reading the result
The gap between nominal and effective widens with both the rate and the frequency. At 3% monthly the uplift is about 0.04 percentage points — noise. At 20% monthly, typical of a credit card, it is nearly 2 points, and at the rates charged by short-term lenders the effective figure can be several times the nominal one.
Where this goes wrong. AER is not APR. APR on a loan folds in mandatory fees as well as compounding, so a loan can carry a 6% nominal rate, a 6.17% EAR and a 7.4% APR all at once. Compare like with like, and for borrowing use APR.
Yes. AER (annual equivalent rate) is the UK savings term for it, EAR (effective annual rate) is the borrowing term, and effective annual yield is the same calculation again. All three assume interest is left in the account to compound.
Because interest is usually credited monthly, and the monthly rate has to come from somewhere. The nominal rate divided by twelve is what actually lands in the account each month; the AER is the annualised consequence of leaving those payments alone.
The headline figure is effective annual rate. With 6 % nominal annual rate and 12 compounds per year, that comes to 6.1678 %. Change any field and the figure moves with it.