When a lender grants loan to a borrower, he charges fee (interest) on money lent. The interest payable by the borrower may be simple interest or compound interest. Simple interest means interest charged at flat rate only on the principal amount. In the other words the interest will not be charged on the interest debited to the loan account. In the simple interest formula it is presumed that the interest charged only once during the given period.
The formula for calculating simple interest is:
SI = Principal (P) x Rate (R) of interest (percent per year) × Time (T)[tenure of the loan]
Let us take an example of loan amount Rs.10000.00, Interest rate is 9% (i.e. 9/100= 0.09) per year, period of loan is 2 years then simple interest on the loan for 2 years is;
Simple Interest (SI) Formula
SI= 10000×0.09×2= Rs.1800
Let us take an example of the money borrowed only for 4 months, then interest payable is only for 4months that is equal to 4/12 year or 1/3 year.
SI= 10000×0.09× (4/12) = Rs.300