5 compound interest investments that can grow your money

We’ve all heard the generic financial advice like, “It takes money to make money.” Or, “A penny saved is a penny earned.”

There's a common thread that links most financial rules of thumb together. It’s a concept called compound interest, and it’s a pretty big deal.

It can also be a bit confusing. So what is compound interest, exactly? And how can compound interest accounts make your money a marvel?

What is compound interest?

Compound interest is when the earnings from your savings start to bring in earnings of their own. Compound interest works because interest payments are deposited into your account and immediately start earning interest themselves.

If you deposit $100 at the beginning of the year, you’ll earn interest on your $100 deposit — $1 gets added to your account by year-end. In the second year, you’ll earn interest on your $101 balance — the original investment plus the $1 you already earned. 

Want to test out your own savings scenarios? Use this compound interest calculator. Over time, and particularly with higher interest rates, compound interest can help your account balance grow more quickly. It’s vital to the success of long-term investing and wealth building.

The downsides of compound interest

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Of course, compound interest can also work against you. If you have credit card debt, for instance, the interest costs are added to your balance and start accumulating their own interest costs, leading to a debt snowball effect.

Here’s how it can play out:

• Credit cards. High interest rates mean your balance grows quickly if you only make minimum payments.

• Loans with unpaid interest. Some student loans or personal loans add unpaid interest to the principal, making the total balance swell.

• Carrying balances long-term. The longer you wait to pay down debt, the more the compounding effect works against you.

That’s why compound interest can be a double-edged sword. It can grow savings, but it can also grow debt just as fast.

6 types of compound interest accounts

To take advantage of the power of compounding, start investing or saving in a specific type of compounding interest account. Here’s an overview of your options.

1. High-yield savings accounts

Savings accounts are one kind of compound interest account offered by banks, credit unions, and online financial institutions. They are extremely safe, as funds are FDIC-insured. Yields are relatively low. However, high-yield savings accounts may pay 1-3% APY on your funds.

2. Some checking accounts

Most checking accounts do not earn interest, or they earn an extremely low amount, like 0.02% APY. However, certain rewards checking accounts may pay a reasonable interest rate and can benefit from compounding interest.

3. Money market accounts

Money market accounts are compound interest accounts that are similar to savings accounts, but they also incorporate certain features of checking accounts. They may offer check-writing capabilities and/or access to ATMs, but they typically aren’t meant to fully replace a checking account.

4. Certificates of deposit (CDs)

CDs are financial products offered by banks and credit unions. They require you to lock up your money for a period of time — usually 3 months to 5 years — in exchange for a higher interest rate. Interest is periodically added back to the principal amount, increasing the balance that is earning interest.

5. Brokerage accounts

Brokerage accounts are offered by large financial firms to those 18 and over. These accounts offer access to a wide range of investment opportunities with various rates of return and risk levels. Most investments can benefit from the concept of compounding, including dividend stocks, index funds, and certain mutual funds. 

6. Greenlight’s savings rewards account

With Greenlight, kids and teens can grow their savings faster with up to 6% savings rewards.* Plus, kids and parents can set savings goals, and with parent-paid interest, kids can earn more on the money they save. They can even learn about and get started with investing (with a parent’s permission!). Unlike traditional savings accounts, Greenlight offers robust and fun educational tools that teach kids smart money habits, along with an app that lets them visually see how money can grow over time.

How to pick the right compound interest account

Not all accounts are the same. If you’re opening one for yourself (or helping your kids get started), here are a few things to look for:

• Annual Percentage Yield (APY). This is how much you’ll earn in a year, compounding included. Higher is better, as long as the account is safe.

• Ongoing fees. Some accounts charge a monthly fee or ask you to keep a certain amount of money in them. If you don’t meet those requirements, you could lose some of the interest you’ve earned. 

• Compound timing. Daily compounding usually grows your money faster than monthly, quarterly, or annual compounding.

• Access to funds. Do you need the money available anytime (like in a savings account), or are you okay locking it up for a while (like in a CD)?

• Ease of management. A user-friendly app or online banking tools make it much easier to track balances and transfers.

• FDIC insurance. For savings accounts and CDs, make sure the bank or credit union is insured so your money is protected.

How compound interest can help you reach your financial goals

A big part of success in personal finance is defining your financial goals and taking actionable steps towards those objectives. Everyone’s goals are different, but the principles of compound interest can benefit just about any financial goal.

Here are just a few examples of how compound interest can help you make progress.

• Save money. Whether your goal is to build an emergency fund, save up for a vacation, or simply build a financial cushion, saving money in a high-yield savings account is a great idea. Look for an account with a reasonable APY so your money can grow faster!

• Teach kids about money. Compound interest is an important part of teaching kids financial literacy. Parents can give examples of compounding growth (see above) or even choose to set Parent-Paid Interest with a debit card for kids. With Greenlight, for instance, a parent might offer 10% interest on any amount their child saves and have the interest deposited automatically each month. See terms of service.

• Save for retirement. Open a retirement account, such as a Roth IRA or 401(k), and start investing in stocks, bonds, or other growth assets. The growth of your account balance will benefit from compound growth, especially if you set things up to automatically reinvest any dividends (interest) and distributions (company profits distributed to shareholders).

• Save for your children’s future. Open a 529 plan and start investing in growth assets. 529s offer tax perks, as well as the option to invest in a variety of assets. Parents can also benefit from introducing the Greenlight app to their kids and teens. Greenlight is an all-in-one money app for kids, so they can learn to save, earn, and invest under one digital roof. Kids can even earn up to 5% on their savings with Greenlight Infinity*.  

• Pay off debt. Remember, compound interest can also work against you when it comes to debt. Here’s a powerful mindset switch: Each time you make a payment toward your debt, think about all the interest you won’t have to pay in the future!

Make your money work for you

Compound interest can help your money grow exponentially over time. It’s one of the key secrets to wealth building, and it’s particularly powerful over long periods of time.

If you’re a parent, understanding compound growth is particularly important for teaching kids about stocks and investing.

FAQs

Does Greenlight account offer compound interest?

Not exactly. Greenlight doesn’t pay bank interest, but kids can still see their savings grow. With the Greenlight Savings Reward (available on specific plans), they can earn up to 5%* on their balances. Parents can also enable Parent-Paid Interest, a fun way to demonstrate to kids how compounding works in real life.

How often does interest compound (e.g., daily, monthly, yearly)?

It depends on where you save. Some banks add interest every day, some do it monthly, and others do it once a year. With all of the potential timing differences, the more often it compounds, the quicker the balance grows.

What's the difference between simple interest and compound interest?

Simple interest only pays on your original balance. Compound interest accumulates faster because you earn interest on the interest that’s already been added.

Is it better to open a compound interest account or invest in the stock market?

There are different reasons to use different types of accounts. A savings account is lower risk, so it can be a good option for safe, long-term savings. Investing in the stock market has its share of ups and downs, but it can yield greater returns over the long run. Many families do both, saving for financial security and also investing for future goals.

*Greenlight Core families can earn 2% per annum, Greenlight Max families can earn 3% per annum, Greenlight Infinity families can earn 5% per annum, and Greenlight Family Shield families can earn 6% per annum on an average daily savings balance of up to $5,000 per family. To qualify, the Primary Account must be in Good Standing and have a verified ACH funding account. See Greenlight Terms of Service for details. Subject to change at any time.