The Mathematics of Finance

CREDIT CARDS AND CONSUMER LOANS

 CREDIT CARDS

Finance charge
An amount paid in excess of the cash price; it is the cost to the customer for the use of credit.

Average daily balance method

The most common method of determining finance
interestcharges
rate
 CREDIT CARDS
Example: Suppose an unpaid bill for $315 had a due date of April 10. A purchase of $28 was made on
April 12, and $123 was charged on April 24. A payment of $50 was made on April 15. The next billing
date is May 10. The interest on the average daily balance is 1.5% per month. Find the finance charge on
the May 10 bill.
Solution:
 CREDIT CARDS
Example: Suppose an unpaid bill for $315 had a due date of April 10. A purchase of $28 was made on
April 12, and $123 was charged on April 24. A payment of $50 was made on April 15. The next billing
date is May 10. The interest on the average daily balance is 1.5% per month. Find the finance charge on
the May 10 bill.
Solution:
 CREDIT CARDS
Example: An unpaid bill for $620 had a due date of March 10. A purchase of $214 was made on March
15, and $67 was charged on March 30. A payment of $200 was made on March 22. The interest on the
average daily balance is 1.5% per month. Find the finance charge on the April 10 bill.

Solution:
 CREDIT CARDS
Example: An unpaid bill for $620 had a due date of March 10. A purchase of $214 was made on March
15, and $67 was charged on March 30. A payment of $200 was made on March 22. The interest on the
average daily balance is 1.5% per month. Find the finance charge on the April 10 bill.

Solution:
 CREDIT CARDS
Annual Percentage Rate (APR)
Also known as Annual Percentage Yield (APY) or True Annual Interest Rate
The effective annual interest rate on which credit payments are based.

interest rate
 CREDIT CARDS
Example: You purchase a refrigerator for $675. You pay 20% down and agree to repay the balance in 12
equal monthly payments. The fi nance charge on the balance is 9% simple interest.
a. Find the fi nance charge.
b. Estimate the annual percentage rate. Round to the nearest tenth of a percent
Solution:
a. To find the finance charge, first calculate the down payment.
Down payment = percent down 𝑋 purchase price

= 0.20 𝑋 675 = 135

Amount financed = purchase price − down payment
= 675 − 135 = 540
Calculate the interest owed on the loan.
Interest owed = finance rate 𝑋 amount financed

= 0.09 𝑋 540 = 48.60 ---- The finance charge is $48.60.

 CREDIT CARDS
Example: You purchase a refrigerator for $675. You pay 20% down and agree to repay the balance in 12
equal monthly payments. The fi nance charge on the balance is 9% simple interest.
a. Find the fi nance charge.
b. Estimate the annual percentage rate. Round to the nearest tenth of a percent
Solution:
b. Use the APR formula to estimate the annual percentage rate.

2𝑛𝑟 2 12 .09 2.16

𝐴𝑃𝑅 ≈ = = ≈ 0.166
𝑛+1 12 + 1 13

The annual percentage rate is approximately 16.6%

 Consumer Loans: Calculating Monthly Payments
Annual Percentage Rate (APR)
Also known as Annual Percentage Yield (APY) or True Annual Interest Rate
The effective annual interest rate on which credit payments are based.

interest rate
 Consumer Loans: Calculating Monthly Payments
Example: Integrated Visual Technologies is offering anyone who purchases a television an annual
interest rate of 9.5% for 4 years. If Andrea Smyer purchases a 50-inch television for $5995 from
Integrated Visual Technologies, fi nd her monthly payment

Solution:
To calculate the monthly payment, you will need a calculator. The following keystrokes
will work on most scientific calculators.
𝑟
First calculate and store the result
𝑛

𝑟 0.095
= ≈ 0.00791667
𝑛 12

Calculate the monthly payment. For a 4-year loan, 𝑛𝑡 = 12(4) = 48.

𝑟 0.095
𝑃𝑀𝑇 = 𝐴 𝑛 = 5995 12 = 150.61
𝑟 −𝑛𝑡 −12(4)
1− 1+𝑛 0.095
1 − 1 + 12

The monthly payment is $150.61.

 Consumer Loans: Calculating Monthly Payments
Example: A web page designer purchases a car for $18,395
a. If the sales tax is 6.5% of the purchase price, find the amount of the sales tax.
b. If the car license fee is 1.2% of the purchase price, find the amount of the license fee.
c. If the designer makes a $2500 down payment, find the amount of the loan the designer needs.
d. Assuming the designer gets the loan in part c at an annual interest rate of 7.5% for 4 years, determine
the monthly car payment.
Solution:
a) Sales tax = 0.065(18,395) = 1195.675 ---------- The sales tax is $1195.68.
b) License fee = 0.012(18,395) = 220.74 ---------- The license fee is $220.74
c) Loan amount = purchase price + sales tax + license fee - down payment
= 18,395 + 1195.68 + 220.74 − 2500 = 17,311.42 The loan amount is $17,311.42.
 Consumer Loans: Calculating Monthly Payments
Example: A web page designer purchases a car for $18,395
a. If the sales tax is 6.5% of the purchase price, find the amount of the sales tax.
b. If the car license fee is 1.2% of the purchase price, find the amount of the license fee.
c. If the designer makes a $2500 down payment, find the amount of the loan the designer needs.
d. Assuming the designer gets the loan in part c at an annual interest rate of 7.5% for 4 years, determine
the monthly car payment.
Solution:
𝑟
d. First calculate and store the result
𝑛

𝑟 0.075
= = 0.00625
𝑛 12
Calculate the monthly payment. For a 4-year loan, 𝑛𝑡 = 12(4) = 48.

𝑟 0.075
𝑛 12
𝑃𝑀𝑇 = 𝐴 𝑟 −𝑛𝑡
= 17311.42 0.075 −12(4)
= 418.57 The monthly payment is $418.57
1− 1+𝑛 1− 1+ 12
 Consumer Loans: Calculating Loan Payoffs
Annual Percentage Rate (APR)
Also known as Annual Percentage Yield (APY) or True Annual Interest Rate
The effective annual interest rate on which credit payments are based.

interest rate
 Consumer Loans: Calculating Monthly Payments
Example: Allison Werke wants to pay off the loan on her jet ski that she has owned for 18 months.
Allison’s monthly payment is $284.67 on a 2-year loan at an annual percentage rate of 8.7%. Find the
payoff amount.

Solution:
Because Allison has owned the jet ski for 18 months of a 24-month (two-year) loan, she has six payments
remaining. Thus 𝑈 = 6, the number of unpaid or remaining payments. Here are the keystrokes to find the
loan payoff.
𝑟
Calculate 𝑛 and store the result.

𝑟 0.087
= = 0.00725
𝑛 12
Use the APR loan payoff formula

𝑟 −𝑈
1− 1+ 1− 1+0.00725 −6
𝑛
𝐴 = 𝑃𝑀𝑇 𝑟 = 284.67 ≈ 1665.50 The loan payoff is $1665.50
0.00725
𝑛
 Consumer Loans: Calculating Loan Payoffs
Car Leases
Residual Value
The value of the car at the end of the lease term.
Frequently based on a percent of the manufacturer’s suggested retail price (MSRP) and normally varies
between 40% and 60% of the MSRP, depending on the type of lease.

interest rate
 Consumer Loans: Calculating Loan Payoffs
Example: The director of human resources for a company decides to lease a car for 30 months. Suppose
the annual interest rate is 8.4%, the negotiated price is $29,500, there is no trade-in, and the down
payment is $5000. Find the monthly lease payment. Assume that the residual value is 55% of the MSRP
of $33,400.
Solution:
Net capitalized cost = negotiated price – down payment – trade-n value
= 29,500 – 5000 – 0 =24,500
interest rate
Residual value = 0.55(33,400) = 18,730
Money Factor = Annual interest rate/24 = 0.084/24 = 0.0035
Average monthly finance charge
= (net capitalized cost + residual value) X money factor
= (24,500 + 18370)𝑋 0.0035
= 150.05
𝑛𝑒𝑡 𝑐𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑒𝑑 𝑐𝑜𝑠𝑡 −𝑟𝑒𝑠𝑖𝑑𝑢𝑎𝑙 𝑣𝑎𝑙𝑢𝑒 24 500 −18.370
Average monthly depreciation = = = 204.33
𝑡𝑒𝑟𝑚 𝑜𝑓 𝑡ℎ𝑒 𝑙𝑒𝑎𝑠𝑒 𝑖𝑛 𝑚𝑜𝑛𝑡ℎ𝑠 30
 Consumer Loans: Calculating Loan Payoffs
Example: The director of human resources for a company decides to lease a car for 30 months. Suppose
the annual interest rate is 8.4%, the negotiated price is $29,500, there is no trade-in, and the down
payment is $5000. Find the monthly lease payment. Assume that the residual value is 55% of the MSRP
of $33,400.
Solution:
Monthly lease payment
= average monthly finance charge + average monthly depreciation
= 150.05 + 204.33 = 354.38interest rate lease payment is $354.38.
The monthly