1. What is Effective Annual Rate (EAR)?

The Effective Annual Rate (EAR) is the actual interest rate that an investor earns or a borrower pays in a year after accounting for compounding. It provides a true comparison between financial products with different compounding periods.

2. How Does the Calculator Work?

The calculator uses the EAR formula:

Where:

• \( i \) — Nominal interest rate (in decimal)
• \( n \) — Number of compounding periods per year

Explanation: The formula accounts for the effect of compounding interest, showing how more frequent compounding leads to higher effective rates.

3. Importance of EAR Calculation

Details: EAR is crucial for comparing loans or investments with different compounding frequencies. It shows the true cost of borrowing or true return on investment.

4. Using the Calculator

Tips: Enter the nominal interest rate as a percentage (e.g., 5 for 5%) and the number of compounding periods per year (e.g., 12 for monthly).

5. Frequently Asked Questions (FAQ)

Q1: What's the difference between APR and EAR?
A: APR doesn't account for compounding, while EAR does. EAR gives the true cost of borrowing.

Q2: How does compounding frequency affect EAR?
A: More frequent compounding (e.g., daily vs. monthly) results in a higher EAR for the same nominal rate.

Q3: What's a good EAR for savings accounts?
A: Currently (2023), good savings accounts offer EARs between 3-5%, though this varies with economic conditions.

Q4: Why is EAR important for loans?
A: It helps borrowers compare loans with different compounding periods to find the true cheapest option.

Q5: Can EAR be less than the nominal rate?
A: No, EAR is always equal to or greater than the nominal rate due to compounding effects.