When you take out a loan, there are several figures you see on each monthly statement. The rate of interest which is added to the principal between your payments is your accrual rate. How often that interest is accrued can make a huge difference in the total amount you pay. For example, if the interest is calculated daily you will end up paying more interest than if it were accruing monthly. The longer you hold a loan the greater the amount of accrued interest will be.
The term accrual is applied to more than just financial instruments. For example, businesses may calculate earned vacation time or pension benefits in this same manner. Perhaps the company policy allows an employee to earn 8 hours of accrued vacation time each month after their initial training period. Accrual rates are also used in accrual accounting, the method of accounting businesses tend to employ. Sole proprietorships usually use cash-basis accounting instead.
Understanding accrual rates may also be important when it comes to understanding pension vesting rates. This is the rate at which an employee would accumulate their retirement benefits. Many companies use a fractional term, for example, an employee may accumulate benefits up to 75% of their final salary at the point of retirement, but the accrual rate is 1/30. It would take 22.5 years to accrue that 75% benefit.
Companies using this type of formula are required to provide annual accrual rate information to their employees until they are fully vested. This allows individuals to make solid decisions regarding other forms of retirement planning.
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