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What is Interest? A Story of Grasshopper and Wise Master

This post was featured at The Digerati Life.

People who understand interest earn it; they don't pay it. If you want to save more money and make more money, you've got to understand interest. Interest is what you pay to borrow money, or what is paid to you if someone borrows your money. Remember it like this: if you lend someone your money, you have an 'interest' in that money, so you charge them interest to use it.

Interest is how your money works for you. In other words, it's how your money makes money for you. "What?!" you say. "How can my money work for me? I'm the one who has to work to get money!" Ah, not always so, young grasshopper. Read on, and you will see.

Interest is usually discussed in terms of the interest rate. This is a percentage of the money you borrowed or lended, and it's the amount charged for using that money. For example, Wise Master lends Grasshopper $100. Because it's his money and he can't use it while he's lending it, Wise Master charges Grasshopper a 10% interest rate. Because Grasshopper needs the money and doesn't have $100 of his own, he agrees to pay 10% of what he's borrowed back to Wise Master. So, when he repays the $100, Grasshopper will also pay Wise Master $10 more, or 10% of the amount borrowed.

See how simple it is? You are becoming wise already.

In our example, Wise Master's money was working for him. He used his $100 to earn $10 dollars more, without him doing a thing. Since his money was working for him, Wise Master was able to go do something else during the time it would take him to earn $10; he could work more, take a nap, or spend time educating more kung-fu students.
On the other hand, Grasshopper lost money because he had to pay interest, and he won't get that $10 back (unless he used the $100 he borrowed to make money in another way, but that is a different subject for another time).

Places where we pay interest and lose money include car loans, credit cards, mortgages, some college loans, and payday loans(those vile things!).

Places where we earn interest and make money are savings accounts, some checking accounts, money market accounts, certificates of deposit(CDs), savings bonds, and others.

It's easy to see that the more you can do to earn interest on your money, the better. The more you can do to not pay interest, the better. Take this knowledge, young grasshopper, and apply it to your money. In time, you, too, will be a Wise Master.

1 comment:

4Life said...

> People who understand interest
> earn it; they don't pay it

I loved your opening sentence. Good read!

Best Wishes,