interest rate
The percentage charged on a loan or paid on savings, expressed as an annual percentage of the principal.
Example
“The Federal Reserve raised the interest rate to slow inflation.”
Memory Tip
The interest rate is what the lender's INTEREST earns — their reward for lending.
Why It Matters
Interest rates directly affect how much money you pay on loans and how much you earn on savings. Understanding interest rates helps you make better borrowing decisions, compare financial products, and plan your budget more effectively since even small differences in rates can cost or save you thousands of dollars over time.
Common Misconception
Many people think interest rates are fixed and never change, but in reality rates fluctuate based on market conditions, inflation, and central bank decisions. Additionally, some borrowers confuse the advertised interest rate with the actual cost of borrowing, not realizing that additional fees and charges can significantly increase the true cost of a loan.
In Practice
If you borrow $10,000 at a 5 percent annual interest rate, you will owe $500 in interest charges over one year, making your total debt $10,500. Conversely, if you deposit $10,000 in a savings account earning 2 percent annual interest, you would earn $200 in interest over one year, bringing your total to $10,200.
Etymology
Interest (from Latin 'interesse' meaning 'to be between') + rate — the charge between lending and borrowing.
Common Misspellings
Learn personal finance fundamentals free
Related Terms
More in fundamentals
Other fundamentals terms you should know
Need financial definitions?
Clear definitions for 2,500+ finance, insurance, and investing terms.