GIC rates are yearly rates. A 4% rate on $1,000 earns about $40 a year.
What happens to that $40 depends on how the interest is paid. Banks usually offer a few choices2:
- Paid out: the bank sends you the interest every year (or every month), and your $1,000 stays the same.
- Compound: the bank adds the interest to your GIC. Next year, you earn interest on $1,040, not $1,000. You get it all at the end.
Compound interest grows like a snowball: your interest earns interest. For example, $2,000 in a 2-year GIC at 2%, compounded, becomes $2,080.801.
A quick example
$1,000 for 3 years at 4%:
- Paid out each year: you get $40 + $40 + $40 = $120.
- Compounded: $1,000 × 1.04 × 1.04 × 1.04 = $1,124.86, so $124.86 of interest.
The extra $4.86 is interest on your interest. Over longer terms and bigger amounts, the difference grows.