Interest paid monthly vs annually

phillw

DullGreyGuy said:

from a purely noddy point of view... if its paid monthly then rounding has to apply monthly as you cannot depost £15.567 interest and so it'll be £15.57.

Some banks will pay £15.56 but then keep track of the £0.007 to add next month.
Others will just pay you £15.56, others £15.57

Depending on the way they calculate the interest will depend on whether monthly or annual interest is better, but they won't tell you how they calculate it.

bostonerimus

If you can get the same interest for monthly and annual crediting it will be better to get it monthly because...as you say...it will have more opportunity to compound. Working on such a problem was how Bernouilli derived the mathematical constant e (2.718...). He took things to the limit where the interest was paid continuously and found that for an annual interest rate r after t years the value is e^[rt].

So if you get 5% interest (ie 0.05) after 1 year with continuous interest you'd have 1.0513 times what you started with. If you compounded once a year it would be 1.05 times. Bankers know this and adjust interest rates accordingly.

phillw

bostonerimus said:

If you can get the same interest for monthly and annual crediting it will be better to get it monthly because...as you say...it will have more opportunity to compound.

They usually quote the same AER for monthly and yearly, so in theory it shouldn't make a difference.

Kaizen917

Normally its the same as banks pretty much always adjust for it (i.e. monthly being slightly lower as mentioned above).

Receiving it monthly feels more natural for us when we are more used to receiving our income monthly rather than yearly, but thats about the only thing that could matter. Otherwise there might be some tax implications when the interest isnt spread across few tax years but land in one off yearly sum but, even if thats the case, its a very niche issue that wont affect most of us.

dgp1000

Given interest rates are going up. There is a risk that a wrongly timed annual payment could mean you end up paying tax. Banks like RCI allow you to change the frequency so manipulating this allows you to move income from one tax year to another. Not sure what other banks allow you to do this. 

zagfles

phillw said:

bostonerimus said:

If you can get the same interest for monthly and annual crediting it will be better to get it monthly because...as you say...it will have more opportunity to compound.

They usually quote the same AER for monthly and yearly, so in theory it shouldn't make a difference.

Depends on deposit/withdrawal timing. For instance, an account which gives a choice of annual interest on 31st March or monthly interest at the end of every month. Same quoted AER. You want to make a big deposit at the start of March and withdraw it at the end of March, eg a house sale which you're going use to buy a new house.

You'd clearly get more with annual interest than you would with monthly.

se2020

I've got a house deposit to put into a savings account which I may need at any time so it will be in an easy access account.

I might well end up paying tax on the interest so 1 annual payment would probably be easier for the sake of my tax return.

One question,  
If I put the money in as one lump sum, choose annual payment, then withdraw it all 6 months later I presume they will still pay interest for the 6 months it was in there? I just won't get the payment until 6 months later (end of the first year)?

zagfles

se2020 said:

I've got a house deposit to put into a savings account which I may need at any time so it will be in an easy access account.

I might well end up paying tax on the interest so 1 annual payment would probably be easier for the sake of my tax return.

One question,  
If I put the money in as one lump sum, choose annual payment, then withdraw it all 6 months later I presume they will still pay interest for the 6 months it was in there? I just won't get the payment until 6 months later (end of the first year)?

Yes, you'll still get the interest on whatever their interest payment date is, with some accounts it's a fixed date for everyone with that account, for others it might be the anniversary of opening it.

But you could get the interest earlier - by closing the account, when they'd normally pay interest on closure.

bostonerimus

This is a nice video that shows how compounding intervals work and ends with the start of complex analysis.

https://www.youtube.com/watch?v=AuA2EAgAegE