Calculating interest earned on savings

SnowMan

opinions4u wrote: »

It's never going to be spot on unless you use the gross rate, because the gross rate is the contractual rate of interest in law. It's what the banks actually pay before deduction of tax. AER is merely a notional rate calculation for marketing comparison purposes.

Another weakness of using the AER in the calculation is that it takes no account of the tax deduction. In the real world, where interest is added monthly and net of tax, the net rate is calculated against the gross rate and not the AER. Where a bonus rate last for less than a year, using the AER falls flat on its face. Where interest is paid annually, the AER and the gross are the same, so it would work fine.

As a rough guide it does the job well enough. But it isn't going to be accurate unless the gross rate is used.

The 365.25 days a year is also an interesting one - different providers handle the leap year in a range of peculiar ways!

The 365.25 is just to keep it simple and so it works over long periods, could have as easily used 365 with negligible practical effect. Have been some brilliant, often surreal threads on leap year calculations on mortages and savings over the years haven't there. It always reminds me of the 'give me back my 15 days' campaign on the switch between the Julian and Gregorian calendars, although that said I believe people did lose financially on the calendar change and it wasn't just that they thought they were losing 15 days of their lives :rotfl:

I agree the one exception where the AER doesn't work are for bonuses that last for less than a year but that has never happened with an account I have had. The Ulster Bank 6 month bonus some time ago was a good example though where the AER wouldn't have worked in the spreadsheet.

The spreadsheet I came up with just calculates net interest by calculating gross interest using the earlier formula and the AER and multiplying by 0.8, so doesn't need the net rate to work. Again it makes it easier to check interest payments without losing anything in all practical uses.

A 3% gross Egg account paying annual interest will pay a different amount of interest than an identical 3% gross annual interest Nat West account, if say held for 6 months and then closed, because they use different calculation methods. Which is right? I have no idea. Which is legally correct? I have no idea. Which is mathematically correct? Egg for sure.

Unless you want to check every interest payment using the exact and different formula that any one institution uses (and that's even before you worry about leap years etc) you are never going to tally the interest they pay exactly. It is hard to see what practical use trying to check that accurately would have. That was my thinking behind using the formula I do.