Banking Your Money
Get interested in growing your cash!
About the Activity
Did you know that your money can grow? It’s true – and in this activity kids will learn all about that growth, called financial interest, and how to calculate it. To do this activity, you’ll need a basic level of computer/technology literacy, specifically how to use an internet-connected device and the ability to navigate the internet. You’ll also need a calculator.
Topic: Financial Literacy
Estimated Time: 30 Minutes
Brought to you by TD Ameritrade.
These simple materials will get you started.
- Pen or Pencil
- An internet-connected smartphone, tablet or computer
- A calculator
- First, let’s understand the definitions of these terms: principal and interest rate.Did You Know? Principal is the starting sum of money, whether it’s what you deposited in the bank, or an amount that you’re borrowing from the bank.Did You Know? Interest is an amount that the bank pays you to be able to use your money. Businesses and individuals who borrow money from the bank pay a fee to borrow the money, and the bank then passes some of that interest on to you for keeping a savings account with the bank.
- Next, let’s look at this formula to understand how interest is calculated: I = P(1 + rt). Discuss what the letters in this equation represent (“I” is short for interest, “P” is for principal, “R” is for rate, and “T” is for time). Depending on how far along your kids are in math, you may need to explain how to convert decimals (.05) to percentages (5%).
- Using the formula above and a calculator, calculate the total principal if you saved $1,000 for one year at a 5% interest rate.
- Once you calculate the yearly interest, use the number of months in a year to figure out how much you earn each month.Did You Know? Compound interest is the interest that you earn on top of your interest. For example, if you have $100 with a 5% interest rate, you’ll earn $5 after the first year. That 5% interest is then applied to the $5 you earned, and the $100, so that after year 2 you’ve earned $110.25 – the extra $0.25 is the compound interest. That doesn’t sound like much, but the more money you have in your bank, and the more often that interest is compounded, the more you’ll earn.Also: Different types of accounts offer different interest rates, and may compound that interest on different schedules – the more often it is compounded, the more money your account will accrue. That’s because every time your interest compounds, your interest earnings are added to your principal, which means you’ll earn more interest in your next term.
- Using the internet, look up various financial institutions and find out their interest rates on savings accounts. Try different banks and credit unions, and look at the different types of savings accounts they offer. Check to see if the financial institutions have any special savings accounts for young people. What are the features that they offer? Hint: Use the number of months in a year. Also, note that interest rates change based on the financial conditions of the moment. Look up historical interest rates to understand how high and low they can typically go.Note: Typically, savings accounts will have higher interest rates than checking accounts. Certificate of Deposit accounts, or CDs, might offer even higher interest rates than normal savings accounts.
- Let’s look into the rule of 72, which is a clever mathematical shortcut you can use to approximate how long it will take you to double your money, depending on your interest rate. The equation looks like this: Years to double your money = 72 / Your interest rate. For example, if your interest rate is 6%, it will take you 12 years to double your money, because 72 divided by 6 is 12! Try it out! You can learn more about why this works by reading this article.
- Let’s use the rule of 72 to estimate what savings from a summer job could turn into overtime. Let’s say you save $5,000 doing a combination of yard work and babysitting over the summer. If you assume an average return rate of 5% over the long term, how much would you have in seven years? How about 14? How much money would you have if you kept it invested until you’re 65 years old? Draw a chart to help you visualize how the money grows. What do you notice?
Questions for your kids and teens.
- How can interest earn you money? When does it make more sense to put your money in a bank? When does it make more sense to keep it at home?
- How does interest change how you think about saving your money? From the banks you looked at, which kinds of accounts offer higher interest rates? What are the differences in the other terms of the accounts between those that offer lower interest rates, and those that offer higher ones?
- Describe the idea of compounding interest; how does that work? Financial institutions may compound interest semiannually, quarterly, monthly or even daily. Why is it best to have the bank compound interest as often as possible? What is the most important feature of compounding interest?
Investigate and Explore
Take what you've learned to the next level to learn more and explore the possibilities.
As discussed above, compound interest is when interest is tallied on the principal AND the interest you’ve already earned on your money. The formula for calculating compounding interest is always A = P(1 + r/n)^nt, where “p” is the principal; “r” is the rate; “n” is the number of times interest applied per time period; and “t” is the number of time periods elapsed. Use this formula to figure out the total amount on a $10,000 loan that compounds annually over a 3 year period at a rate of 5%. To learn more about compound interest, watch this video.
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