Today, interest is a standard form of compensation for the loss of the use of money. In fact, it is often awarded without proof of actual loss. Courts and tribunals presume that the delayed payment of money deprives the injured party of the ability to invest the sum owed. The U.S. Supreme Court justified this practice, noting:
It is the dictate of natural justice, and the law of every civilized country, that a man is bound in equity, not only to perform his engagements, but also to repair all the damages that accrue naturally from their breach. ... Every one who contracts to pay money on a certain day knows that, if he fails to fulfill his contract, he must pay the established rate of interest as damages for his non-performance. Hence, it may correctly be said that such is the implied contract of the parties.
There are three reasons for requiring a respondent to pay interest to a claimant that has succeeded on its damages claims. The first rationale is to fully compensate the claimant by restoring it to the position it would have enjoyed if the breach had not occurred. In this context, the payment of interest recognizes that, by refusing to pay the claimant immediately, the respondent has deprived the claimant of the ability to invest the sum owed. Thus, interest compensates the claimant for the loss of the use of its money because of this delay.
The second reason for awarding interest is to prevent unjust enrichment of the respondent. Respondents that retain the use of money owed to the claimants during the resolution of the dispute are said to have unfairly benefited from its use. They are receiving the earning capacity of the borrowed money without compensating the claimants for the loss of its use. The respondents thus should pay the opportunity cost of the money withheld to the claimants.
The third reason for awarding interest is that it promotes efficiency. Without interest, claimants will not be fully compensated for their loss. As a result, respondents may be insufficiently deterred, may not try to avoid future litigation, and, indeed, may even take steps to delay the resolution of the dispute because respondents profit from the use of claimants' money while the dispute is being resolved. This possibility may also cause claimants to be over-deterred and to take excessive precautions to avoid future litigation. Thus, interest awards encourage parties both to avoid disputes and, if they do occur, to resolve them in a timely manner.
There are two principal forms of interest: simple interest and compound interest. An award of compound interest means that the interest payment for a certain period is added to the principal sum owed and that sum is treated as a new principal for calculating the interest for the next period. In other words, the creditor-claimant receives interest upon interest. By contrast, when only simple interest is awarded, the interest is calculated only on the principal owed; the interest owed for a certain period does not merge with the principal and become part of the base upon which future interest is calculated.
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