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10-Simple and General Annuity

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13 views15 pages

10-Simple and General Annuity

Uploaded by

Ellen Dadivas
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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LESSON 1:

SIMPLE ANNUITY
LESSON OUTLINE:

1. Definition of Terms
2. Future Value of a Simple Annuity
3. Present Value of a Simple Annuity
4. Periodic Payment of a Simple Annuity
Definition of Terms:
• Annuity- a sequence of payments made at equal
(fixed) intervals or periods of time
• Annuities may be classified in different ways as
follows:
Annuities
According to Simple Annuity- an annuity General Annuity- an annuity
payment where the payment interval is where the payment interval is
interval and the same as the interest period not the same as the interest
interest period period
According to Ordinary Annuity (or Annuity Annuity Due- a type of
time of Immediate)- a type of annuity annuity in which the payments
payment in which the payments are are made at beginning of each
made at the end of each payment interval
payment interval
According to Annuity Certain- an annuity in Contingent Annuity- an
duration which payments begin and end annuity in which the payments
at definite times extend over an indefinite(or
indeterminate) length of time
Term of an annuity (t)- time between the first payment interval and last payment
interval
Regular or periodic payment (R)- the amount of each payment
Amount (Future Value) of an Annuity (F)- sum of future values of all the
payments to be made during the entire term of the annuity
Present value of an annuity (P)- sum of present values of all the payments to be
made during the entire term of the annuity
Frequency of conversion (m)- number of conversion periods in one year
Conversion or interest period- time between successive conversions of interest
Total number of conversion periods n
n=mt= (frequency of conversion) x (time in years)
Nominal rate (i(m))- annual rate of interest
Rate (j) of interest for each conversion period
𝑖 (𝑚) 𝑎𝑛𝑛𝑢𝑎𝑙 𝑟𝑎𝑡𝑒 𝑜𝑓 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡
𝑗 = 𝑚 = 𝑓𝑟𝑒𝑞𝑢𝑒𝑛𝑐𝑦 𝑜𝑓 𝑐𝑜𝑛𝑣𝑒𝑟𝑠𝑖𝑜𝑛
Amount (Future Value) of an Ordinary Annuity:
The future value F of an ordinary annuity is given
by
𝑛
(1 + 𝑗) − 1
𝐹=𝑅
𝑗
Where R is the regular/periodic payment;
j is the interest rate per period;
n is the number of payments
Example 1: You started to deposit P2,000 quarterly in a fund that pays 5.5%
compounded quarterly. How much will be in the fund after 6 years?

Given: R= 2,000
m= 4
i(4)= 5.5% = 0.055
0.055
𝑗 = 4 = 0.01375
t= 6 years
n= tm= (6)(4)= 24 periods
Solution:
(1+𝑗)𝑛 −1
𝐹= 𝑅 𝑗
(1+0.01375)24 −1
𝐹= 2,000
0.01375
𝐹 = 56, 413.75
Answer: The fund will become P56,413.75 after 6 years.
TRY THIS:

1. Monthly payments of P3,000 for 4 years


with interest rate of 3% compounded
monthly.
2. Semi- annual payments of P12,500
with interest rate of 10.5% compounded
semi-annually for 6 years.
Present Value of an Ordinary Annuity:
The present value of an ordinary annuity is given by

1 − (1 + 𝑗)−𝑛
𝑃=𝑅
𝑗
Where R is the regular/periodic payment;
j is the interest rate per period;
n is the number of payments

The cash value or cash price of a purchase is equal to the down


payment (if there is any) plus the present value of the installment
payments.
Example 2: The buyer of a house and lot pays P200,000 cash and P10,000 every month for 20 years. If money
is 9% compounded monthly, how much is the cash value of the house and lot?

Given: down payment= 200,000


R=10,000
i(12)= 0.09
m= 12
0.09
j= 12 = 0.0075
t= 20 years
n= mt= (12)(20) = 240 periods
Find: Cash Value
1−(1+𝑗)−𝑛
Solution: 𝑃 = 𝑅 𝑗
1 − (1 + 0.0075)−240
𝑃 = 10,000
0.0075
𝑃 = 1,111,449.54

Cash Value= Down payment + Present Value


Cash Value= 200,000 + 1,111,449.54

Answer: The cash value of the house and lot is P1,311,449.54.


1. Quarterly payment of P15,000 for 10 years
with interest rate of 8% compounded quarterly.
Find the present value.

2. Annual payments of P150,000 with interest


rate of 8% compounded annually for 10 years.
Find the present value.
Periodic Payment R of an Annuity:
Periodic payment R can also be solved using the formula for amount F or present
value P of an annuity:

(1+𝑗)𝑛 −1 (1+𝑗)𝑛 −1
𝐹=𝑅 𝑗
𝑅 = 𝐹/ 𝑗
1−(1+𝑗)−𝑛 1−(1+𝑗)−𝑛
𝑃=𝑅 𝑗
𝑅 = 𝑃/ 𝑗

Where R is the regular payment;


P is the present value of an annuity
F is the future value of an annuity
j is the interest rate per period
n is the number of payments
Example 3: Mr. Chuo would like to save P500,000 for his
son’s college education. How much should he deposit in a
savings account every 6 months for 12 years if interest is at
1% compounded semi-annually?
Given: F= 500,000
i(2)= 0.01
m= 2
j= 0.005
t= 12 years
n= mt= (2)(12)= 24 periods
Find: periodic payment R

(1+𝑗)𝑛 −1
Solution: 𝑅 = 𝐹/
𝑗
(1+0.005)24 −1
𝑅 = 500,000/
0.005
𝑅 = 19, 660.31
Answer: He will pay P19,660.31 every 6 months.
Example 4: Odette borrowed P150,000 payable in 2 years. To repay the loan, she must pay an amount
every month with an interest rate of 6% compounded monthly. How much should she pay every month?

Given: P= 150,000
i(12) = 0.06
m=12
j= 0.005
t= 2 years
n= mt= (12)(2)= 24 periods
Find: periodic payment R

Solution:
𝑃
𝑅= 1−(1+𝑗)−𝑛
𝑗
1 − (1 + 0.005)−24
𝑅 = 150,000/
0.005
𝑅 = 6,648.09
Answer: She will pay P6,648.09 per month.

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