Annual Percentage Yield: How APY Grows Your Savings
Annual percentage yield tells you what your savings will actually earn in a year, once compounding is counted in. Here is how APY is calculated, how it differs from APR, and how to use it to compare savings accounts, CDs, and money market accounts.
Key takeaways
- APY is the real yearly return on a deposit, including compound interest.
- It is calculated as APY = (1 + r ÷ n)n − 1, where r is the rate and n is yearly compounding periods.
- APY always equals or beats APR on the same rate, because APY counts compounding and APR does not.
- APY does not include fees, taxes, or future rate changes, so read the account terms alongside the headline number.
What Is Annual Percentage Yield?
Annual percentage yield, or APY, is the total interest a deposit earns over one year when compound interest is counted in. Compound interest means you earn interest not only on your original deposit, but also on interest already added to your balance. That is why two accounts advertising the same rate can pay out different amounts: the one that compounds more often pays more.
Think of it this way. If you deposit $1,000 at a 4% APY and leave it untouched, you will have $1,040 after one year. In the second year you earn 4% on $1,040, not on $1,000, so your balance reaches $1,081.60. Growth speeds up each year, because each year's interest joins the balance earning the next year's interest.
Under U.S. banking rules, institutions must disclose APY on deposit accounts, making it the standard number for comparing savings products on equal terms. The Consumer Financial Protection Bureau's Regulation DD, which implements the Truth in Savings Act, sets out how that yield must be calculated and disclosed, so the figure from one bank means the same thing as the figure from another. (Source: CFPB, Regulation DD, Appendix A)
How APY Is Calculated
The APY formula converts a nominal interest rate and a compounding schedule into one annual percentage: APY = (1 + r ÷ n)n − 1.
Here, r is the nominal annual interest rate written as a decimal, and n is the number of times interest compounds in a year: 1 for annual, 4 for quarterly, 12 for monthly, and 365 for daily compounding. Multiply the result by 100 to get a percentage.
Take an illustrative example: a 5% nominal rate. With annual compounding, the APY is simply 5.00%. Quarterly compounding gives 5.09%, monthly gives 5.12%, and daily gives 5.13%. The steps are small, but they are real money: on an illustrative $10,000 balance, daily compounding earns about $513 in a year, versus $500 with annual compounding.
| Compounding | n per year | APY on a 5% rate | Year-one interest on $10,000* |
|---|---|---|---|
| Annual | 1 | 5.00% | $500 |
| Quarterly | 4 | 5.09% | $509 |
| Monthly | 12 | 5.12% | $512 |
| Daily | 365 | 5.13% | $513 |
*Illustrative figures, rounded to the nearest dollar. (Formula source: The Motley Fool) Gaps are small: the rate matters more than the schedule.
APY vs APR: What Is the Difference?
APY and APR look similar, but they answer opposite questions. APY tells you what you earn on money you save or invest. APR, the annual percentage rate, tells you what borrowing costs, and it does not include compounding. Hence APR for loans, APY for deposits.
Because APY includes compounding, it is always equal to or higher than the APR on the same nominal rate; when interest compounds only once a year, the two numbers are identical. So never compare a loan's APR with a deposit's APY. (Source: Capital One)
| APY | APR | |
|---|---|---|
| Measures | What you earn on deposits | What you pay on borrowing |
| Compounding | Included | Not included |
| Used for | Savings, CDs, money market accounts | Loans, mortgages, credit cards |
| Fees included? | No | Often, such as origination fees |
Run your own numbers with the compound interest calculator.
Worked Example: What APY Means Over Time
APY's real power shows over several years, because compounding builds on itself. Here is an illustrative example, assuming no deposits or withdrawals: $1,000 left untouched at a steady 4.00% APY.
| Year | Starting balance | Interest earned | Ending balance |
|---|---|---|---|
| 1 | $1,000.00 | $40.00 | $1,040.00 |
| 2 | $1,040.00 | $41.60 | $1,081.60 |
| 3 | $1,081.60 | $43.26 | $1,124.86 |
| 5 | $1,169.86 | $46.79 | $1,216.65 |
| 10 | $1,480.24 | $59.21 | $1,539.45 |
Illustrative example at a constant 4.00% APY.
Interest earned grows every year even though the rate never changes. On a larger balance the effect is easier to feel: $5,000 at a steady 4.00% APY grows to about $7,401 after ten years, with roughly $2,401 of that total coming from interest alone.
Where APY Matters Most
APY shows up wherever you park cash. On a certificate of deposit (CD), the APY reflects the fixed rate locked in for the term, so longer terms usually carry higher yields. On a money market account, the APY works the same way as on savings, but the account may also offer check-writing or a debit card. Our companion guide compares the two: money market account vs savings account.
High-yield savings accounts are the most common place savers meet APY in practice. They work like ordinary savings accounts but pay more, usually because online banks have lower overhead. If the concept is new to you, read what is a HYSA first. And if you keep separate pots for separate goals, how to start multiple savings accounts shows how to organise them without losing track.
What APY Does Not Tell You
APY is a standardised snapshot, not the whole story. First, it excludes fees: monthly maintenance fees and early-withdrawal penalties on CDs come straight out of your return. Second, most savings APYs are variable, so the rate can change at any time. Third, tiered rates pay different yields at different balances, so the advertised APY may only apply above a minimum. Finally, APY is quoted before tax.
None of this makes APY useless. It makes it a starting point. A higher APY beats a lower one when the accounts are otherwise alike, but check the fee schedule, the minimum balance, and whether the rate is fixed or variable before you move money. Finally, compare APY to APY, never APY to a plain rate, and watch for introductory rates that drop after a few months.
This article is general information only and is not financial advice. Rates and terms vary by institution and change over time; verify current terms before opening an account.