Learn how to calculate SIP interest using formulas and calculators. Understand components like tenure, compounding, and returns to grow your investments wisely.
SIP stands for Systematic Investment Plan, under which people invest a fixed amount of money periodically in mutual funds. It is a prudent method of investing that helps accumulate wealth in the long run. Investors need to know how to calculate SIP interest so that they can manage their money and investments effectively. In this blog, we will explain how to calculate SIP interest in detail and provide calculations for better understanding.
As we know, an SIP enables an investor to invest a fixed amount on a fixed date every month in a mutual fund scheme. This method takes advantage of rupee cost averaging and compounding interest and is, therefore, suitable for long-term investment.
Before we dive into how to calculate SIP interest, here are the key components that one needs to know before calculating an SIP:
Follow the below steps to calculate SIP returns in Excel:
The functioning of the SIP calculator is rooted in certain mathematical formulas. It focuses on the compound interest charged on SIP investments.
FV = P [(1+i)^n-1] * (1+i)/i
where:
FV = Future Value
P = Rupee value that has been paid on each date
i = Annual return
n = Number of Installments
Almost every mutual fund house offers an online SIP calculator that gives an approximate amount of returns based on the fund's past performance. However, it is worth noting that past performances do not determine future profitability.
The compounding frequency (n) is defined as the number of times the interest is applied to the principal amount and added within a year. As for most mutual funds, the compounding frequency is monthly; therefore, the value of n is equal to 12.
For instance, let’s take an example of an SIP of ₹5000 per month for 10 years with an expected rate of return of 12% compounded monthly.
SIP contribution (P) = ₹5,000 per month
Expected rate of return (i) = 12% per annum or 0. 12
Investment tenure (n) = 10 years × 12 months = 120 installments
FV = P × [(1 + i)^n - 1] × (1 + i) / i
FV = 5,000 × [(1 + 0. 12/12)^120 - 1] × (1 + 0. 12/12) / (0. 12/12)
FV = 5,000 × [(1. 01)^120 - 1] × 1. 01 / 0. 01
FV = 5,000 × [3. 1952 - 1] × 101
FV = 5,000 × 2. 1952 × 101
FV = ₹11,10,860
Hence, the amount that would be accumulated if ₹5,000 was invested every month for 10 years with an expected rate of return of 12% compounded monthly would be approximately ₹11,10,860.
Total Interest Earned = FV – Total Contributions
Total Contributions = SIP Contribution (P) × Number of Installments (n)
Total Contributions = 5000 × 120 = 600000
Total Interest Earned = ₹ 11,10,860 – ₹ 6,00,000 = ₹ 5,10,860
Hence, the total interest earned on this SIP investment would be around ₹5,10,860.
For the given example, the two formulae give similar output which states the future value of the SIP investment as well as the total interest earned.
It is important to note that the calculation is done at an expected rate of return per annum, which may change from time to time depending on the market forces. Therefore, the SIP investment should be periodically checked, and it is better to align your expectations with reality.
Furthermore, using this formula, you can also determine the interest rate earned on the SIP at different intervals, say annually or half-yearly, by changing the value of ‘n’.
Although manual calculation aids comprehension of the process, online SIP calculators can be useful to save time and minimize mistakes. These calculators involve entering the amount invested every month, the years to invest, and the expected rate of return per year. They then calculate the total future value and share information on the growth of the investment.
It’s important to keep in mind that there are many factors that can affect your returns. Here are some key factors:
SIP interest can easily be computed using these steps or online calculators to determine the possible profits one could make from the investment. Factors such as investment quantity, expected rate of return, and investment period should also be taken into consideration.
It is essential to know about compounding, how to calculate SIP interest, and how it increases your benefits at a steady rate. With this knowledge, you can set appropriate expectations for your SIP investments and be in a better position to achieve your financial goals.
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