We studied the effect of AC electric fields on pair-wise and many-body colloidal interactions. In the absence of an electric field, the interactions for three particles in triangular and linear configuration were in good agreement with the predicted results from Stokesian dynamics simulations, which account for the hydrodynamic interactions between particles. In addition, we carried out a systematic experimental characterization of pair interactions under an applied AC electric field. The electrolyte concentration in the medium and the frequency of the electric field had a strong effect on the particle interactions. Our results suggest that the dipole-dipole interactions are dominated by the double layer polarization around the particles. This interaction is an order of magnitude larger than the dipole-dipole force expected from the particle polarization, as calculated by the Claussius-Mossotti factor. These effects need to be accounted for when considering the field-induced assembly of particles in AC electric fields