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BES11- ENGINEERING ECONOMICS MODULE

Topic:
Annuities
Ordinary annuity
Annuity due

Prepared by:
Osabel, Lourens
Comision, Sharie
Rapsing, Ariel Jr.
Laurio, Meljun
Viterbo, Riacel

Submitted to:Engr. Janvilve Bolante

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INTRODUCTION
Greetings learner! This web-based module is intended to assist learners,
families, and professionals in understanding about annuity. This module takes 2-
3 hours to complete and can be accessed from any computer with internet
capability.

OBJECTIVES:
1. Understand what is Annuity and its parts.
2. Be able to determine the difference between Annuity parts.
3. Be able to answer different Annuity problems.
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ANNUITIES

What is Annuity?
An Annuity is a series of recurring cash payments that occur at regular
intervals, such as rent on an apartment, a monthly mortgage loan payment, or
monthly auto loan payments. In ordinary annuities, payments are made at the
end of each period. With annuities due, they're scheduled at the beginning of the
period.

Two Types of Annuities

Annuities, in the ongoing payments sense of the word, break down into two
basic types: ordinary annuities and annuities due.

 Ordinary Annuities: An ordinary annuity makes (or requires) payments at the

end of a particular period. For example, bonds generally pay interest at the end
of every six months.
 Annuity due: An annuity due, by contrast, involves payments that are made at
the beginning of each period. Rent, which landlords typically require at the
beginning of each month, is a common example.

How do you calculate an annuity?

The calculation of an annuity follows a formula:
FV = P×((1+r)n−1) / r
PV = P×(1−(1+r)-n) / r

Where:

 FV = Future value of the annuity

 P= Payment amount per period
 r = Interest rate per period
 n = Number of periods

Where:
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 PV = Present value of the annuity

 P = Payment amount per period
 r = Interest rate per period
 n = Number of periods

EXAMPLE IN FUTURE VALUE:

1.Let’s say you make monthly payments of $200 into an account that pays an annual
interest rate of 6%, compounded monthly, for 5 years.

 Payment P=200
 Monthly interest rate r=6%/12=0.5%=0.005
 Number of periods n=5×12=60

Now, we can calculate the future value using the formula:

FV = P×((1+r)n−1) /
FV=200× ((1+0.005)^60 −1) /0.005
FV= $ 70716.7436

2.Suppose you invest $1,000 every quarter into an account that earns an annual
interest rate of 8%, compounded quarterly, for 4 years.

 Payment P=1,000
 Quarterly interest rate r=8%/4=2%=0.02
 Number of periods n=4×4=16

The future value of the annuity would be:

FV = P×((1+r) n−1) / r
FV=1,000×((1+0.02)^16 −1) /0.02
FV= $ 18639.2853
EXAMPLE IN PRESENT VALUE:

1.You plan to receive $500 monthly for 10 years from an account that earns an
annual interest rate of 5%, compounded monthly. Let’s find the present value.

Given:

 Payment P=500
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 Annual interest rate = 5%, so monthly interest rate r= (5%/12)=0.004167

Number of periods n=(10×12)=120

Now, we apply the formula:

PV = P×(1−(1+r) -n) / r

PV=500× (1−(1+0.004167)^−120) /0.004167

First, we calculate (1+0.004167)^−120:

(1+0.004167) =1.004167
(1.004167)^−120 ≈0.61051

Now plug that value back into the formula:

PV=500× (1−0.61051)/ (0.004167)

PV=500× (0.38949)/ (0.004167)
PV=500×93.41
PV≈ $46,705.08

Answer: The present value of the annuity is approximately $46,705.08.

2.Suppose you plan to receive $1,200 every quarter for 3 years, and the account
earns an annual interest rate of 6%, compounded quarterly. Let's find the present
value.

Given:

 Payment P=1,200
 Annual interest rate = 6%, so quarterly interest rate r=6%4=0.015
 Number of periods n=3×4=12

Now, we apply the formula:

PV = P×(1−(1+r) -n) / r
PV=1,200× (1−(1+0.015)^−12 /0.015

First, we calculate (1+0.015)^−12

(1+0.015) =1.015
(1.015) −12≈0.83564
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Now plug that value back into the formula:

PV=1,200× (1−0.83564) /0.015

PV=1,200× (0.16436/0.015)
PV=1,200×10.957≈13,148.57

PV= $13,148.57

Answer: The present value of the annuity is approximately $13,148.57.

Exercise 1: Answer the following problems.

1.You make monthly payments of $100 into an account that earns an annual
interest rate of 4%, compounded monthly, for 5 years. What is the future value?

2.You make quarterly payments of $500 into an account that earns an annual
interest rate of 8%, compounded quarterly, for 10 years. What is the future
value?

3.You plan to make monthly payments of $400 into an account that earns an
annual interest rate of 5%, compounded monthly, for 6 years. How much money
do you need to invest today to make these monthly payments?

4.You need to make annual payments of $1,200 into an account that earns an
interest rate of 7%, compounded annually, for 10 years. How much money would
you need to invest today to make these payments?

5.You are planning to receive quarterly payments of $500 for the next 5 years
from an account earning an annual interest rate of 6%, compounded quarterly.
How much money do you need to have in the account today to receive these
payments?
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ORDINARY ANNUITY

An ordinary annuity is a fixed amount of income that is given annually or

at regular intervals. An annuity is an agreement with an insurance firm during
which you create a payment (one-time big payment) or series of payments and,
in return, receive a regular fixed income, beginning either immediately or after
some predefined time within the future.
FORMULA OF ORDINARY ANNUITY
Ordinary Annuity =
P×(1−(1+r)^−n)/((1+r)^t ×r)
THE FUTURE VALUE OF AN ORDINARY ANNUITY
FV = P×((1+r)n−1) / r
THE PRESENT VALUE OF AN ORDINARY ANNUITY
PV = P×(1−(1+r)-n) / r

where,

P = Value of each payment

r = Rate of interest per period in decimal
n = Number of periods

Solved Examples Using Ordinary Annuity Formula

1. Alan was getting $100 for 5 years every year at an interest rate of 5%. Find the
future value using the ordinary annuity formula at the end of 5 years?

Solution:

The future value

Given: r = 0.05, 5 years = 5 yearly payments, so n = 5, and P = $100

FV = P×((1+r) n−1) / r
FV = $100 × ((1+0.05)5−1) / 0.06

FV = 100 × 55.25
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FV = $552.56
Answer: The longer-term value of annuity after the end of 5 years is $552.56.

2. If the present value of the annuity is $20,000. Assuming a monthly interest rate
of 0.5%, find the value of each payment after every month for 10 years.

Solution

To find: The value of each payment

Given:

r = 0.5% = 0.005

n = 10 years x 12 months = 120, and PV = $20,000

Using formula for present value

PV = P×(1−(1+r) -n) / r
Or, P = PV × (r / (1−(1+r)−n))
P = $20,000 × (0.005 / (1−(1.005)−120))

P = $20,000 × (0.005/ (1−0.54963))

P = $20,000 × 0.011...

P = $220

Answer: The value of each payment is $220.

Exercise 2: Answer the following problems.
1.You are saving $200 each month into an account that pays an annual interest
rate of 6%, compounded monthly. How much will you have in the account after 5
years?
2.You will receive $1,000 at the end of each year for the next 10 years. The
interest rate is 8% per year. What is the present value of this annuity?
3. You deposit $1,500 at the end of each quarter into an account that pays 4%
annual interest, compounded quarterly. How much will you have after 8 years?
4.You plan to receive $2,000 at the end of each month for the next 3 years. The
monthly interest rate is 0.6%. What is the present value of this annuity?
5.You invest $500 every year into an account that earns 10% annually. How
much will you have in the account after 15 years?

ANNUITY DUE
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Annuity Due - it is one where payments are made at the start of each period,
beginning from the first period.
- An annuity due is an annuity in which the cash flows, or payments, occur
at the beginning of the period.

FORMULA:

FV= C×[(1+i)n −1 /i ]×(1+i)

PV =C×[1−(1+i )−n / i ]×(1+i)

Example: 1

To account for payments occurring at the beginning of each period, the

ordinary annuity FV formula above requires a slight modification. It then results
in the higher values shown below.
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The reason the values are higher is that payments made at the beginning
of the period have more time to earn interest. For example, if the $1,000 was
invested on January 1 rather than January 31, it would have an additional month
to grow.

The formula:

FV= C×[(1+i)^n −1 /i ]×(1+i)

FV=$1,000× [ (1+0.05)^5 −1 /0.05] × (1+0.05)

FV=$1,000×5.53×1.05

FV=$5,801.91

Again, please note that the one cent difference in these results, $5,801.92 vs.
$5,801.91, is due to rounding in the first calculation.

Example 2.

You could use this formula to calculate the PV of your future rent
payments as specified in your lease. Let's say you pay $1,000 a month in
rent. Below, we can see what the next five months would cost you, in terms of
present value, assuming you kept your money in an account earning 5%
interest.
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The formula:

PV =C× [1−(1+i)^−n/ i ] ×(1+i)

PV=$1,000× [1−(1+0.05)^-5 /0.05(] × (1+0.05)

PV=$1,000×4.33×1.05

PV=$4,545.95

Exercise 3:

1.You plan to save for a vacation by depositing $3,000 at the beginning of each
year for the next 8 years in a bank account that earns 7% interest annually. How
much will you have accumulated at the end of the 8th year?

2 A business owner is setting aside $12,000 at the beginning of each year for the
next 12 years to build a fund for future expansion. The account earns 5% interest
annually. How much will the fund be worth after 12 years?
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3.You plan to contribute $15,000 at the beginning of each year into an

investment account earning 6% interest annually. You will continue contributing
for 10 years. What will be the total amount accumulated at the end of the 10th
year

4.A university plans to set aside $20,000 at the beginning of each year for the
next 15 years in a savings account that earns 4% interest annually. What is the
present value of these contributions?

5.A city government is contributing $50,000 at the beginning of each year for the
next 25 years into a long-term investment fund that earns 6% interest annually.
What is the present value of these contributions?

ANSWER KEY:

ANNUITIES (Exercise 1)

1. Given:

 Payment P=100
 Monthly interest rate r=4%/12=0.003333
 Number of periods n=5×12=60

Solution:

FV=100× (1+0.003333)^60 −1 /0.003333

First, calculate (1+0.003333)^60

(1.003333)^60 ≈1.221386

Formula: FV = P×((1+r)n−1) / r
FV=100×1.221386−1/ 0.003333
FV=100× (1.221386−1)/ 0.003333
FV=100×66.43=6,643.04
FV=$6,643.04.
Answer: The future value is approximately $6,643.04.

2. Given:

 P=500 (the quarterly payment)

 r=0.08 (annual interest rate),
 n=4 (number of compounding periods per year),
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 t=10 (years).

First, calculate the compound interest rate per period (r/n)

Then, apply the values to find the future value.

Let's compute this manually

Formula: FV = P×((1+r)n−1) / r
r/n=0.08/4=0.02
nt=4×10=40
FV=500× ((1+0.02)^40−1)/0.02

FV= $30,201.

3.Given:

 Annual interest rate = 5% → monthly rate r=0.05/12=0.004167

 Payment per month P=400
 Number of months n=6×12=72

Formula: PV = P×(1−(1+r)-n) / r
PV=400× 1−(1+0.004167)^−72 /0.0041671
PV=$28,908
Answer: The present value (how much money you need to invest today) is
approximately $28,908.

4.Given:
 Annual interest rate = 7% → annual rate
 Payment per year P=1,200
 Number of years n=10

Formula: PV = P×(1−(1+r)-n) / r
PV=1,200× (1−(1+0.07)^−10) /0.07

PV=$8,428.20.
Answer: The present value is approximately $8,428.20.

5.Given:
 Annual interest rate = 6% → quarterly rate r=0.06/4=0.015
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 Payment per quarter P=500P

 Number of quarters n=5×4=20

Formula: PV = P×(1−(1+r)-n) / r

PV=500× (1−(1+0.015)^−20) /0.015

PV=$8,996.65

Answer: The present value is approximately $8,996.65

ORDINARY ANNUITY (Exercise 2)

1. Given:

 P=200 (monthly payment)

 r=6%/12=0.005 (monthly interest rate)
 n=5×12=60 (number of periods)

Use the formula for Future Value (FV) of an ordinary annuity

FV=P×((1+r)^n−1/r)

FV=200× ((1+0.005)^60−1/0.005)

FV=$15,130.91
After 5 years, you will have approximately $15,130.91 in the account.

2. Given:

 P=1000 (annual payment)

 r=8%=0.08 (annual interest rate)
 n=10 (number of periods)

Use the formula for Present Value (PV) of an ordinary annuity:

PV=P×(1−(1+r)^−n/r)
PV=1000× (1−(1+0.08)^−10/ 0.08)
PV=1000× (0.081−(1+0.08) −10)

PV=$6,710.08.

The present value of the annuity is approximately $6,710.08.

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3.Given:

 P=1500 (quarterly payment)

 r=4%4=0.01 (quarterly interest rate)
 n=8×4=32 (number of periods)

Use the formula for Future Value (FV) of an ordinary annuity:

FV=P×((1+r)^n−1/ r)
FV=1500× ((1+0.01)^32−1 /0.01)
FV=1500× (0.01(1+0.01)^32−1)

FV= $70,561.09

4. Given:

 P=2000 (monthly payment)

 r=0.6%=0.006 (monthly interest rate)
 n=3×12=36 (number of periods)

Use the formula for Present Value (PV) of an ordinary annuity:

PV=P×(1−(1+r)^−n/ r)
PV=2000× (1−(1+0.006)^−36/ 0.006)
PV=2000× (0.0061−(1+0.006)^−36)

PV=$67,824.44
The present value of the annuity is approximately $67,824.44.

5. Given:

 P=500 (annual payment)

 r=10%=0.10 (annual interest rate)
 n=15 (number of periods)

Use the formula for Future Value (FV) of an ordinary annuity:

FV=P×((1+r)^n−1 /r)
FV=500× ((1+0.10)^15−1 /0.10)
FV=500× (0.10(1+0.10)15−1)
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FV=$13,552.77
The future value of the annuity is approximately $13,552.77.

ANNUITY DUE (Exercise 3)

1.Given:

 Annuity payment C=3,000

 Interest rate i=7%=0.07
 Number of periods n=8n = 8

Using the formula for FV of an annuity due:

FV= C×[(1+i) n −1 /i ]×(1+i)

FV=3,000× [(1+0.07)^8 −1 /0.07] × (1+0.07)

FV ≈33,048.63

2.Given:

 Annuity payment C=12,000

 Interest rate i=5%=0.05
 Number of periods n=12
Using the formula for FV of an annuity due:

FV= C×[(1+i) n −1 /i ]×(1+i)

FV=12,000× [(1+0.05)12 −1 /0.05]×(1+0.05)

FV ≈201,069.60

3.Given:

 Annuity payment C=15,000

 Interest rate i=6%=0.06
 Number of periods n=10

Using the formula for FV of an annuity due:

FV= C×[(1+i) n −1 /i ]×(1+i)

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FV=15,000× [(1+0.06)10−1/0.06] × (1+0.06)

FV≈209,087.64

4.Given:

 Annuity payment C=20,000

 Interest rate i=4%=0.04
 Number of periods n=15

Using the formula for PV of an annuity due:

PV =C× [1−(1+i)^−n/ i ] ×(1+i)

PV=20,000×[1−(1+0.04)−15 /0.04]×(1+0.04)

PV≈231,650.00

5.Given:

 Annuity payment C=50,000

 Interest rate i=6%=0.06
 Number of periods n=25

Using the formula for PV of an annuity due:

PV =C× [1−(1+i)^−n/ i ] ×(1+i)

PV=50,000×[1−(1+0.06)−25 /0.06]×(1+0.06)

PV: ≈678,431.98
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SUMMARY

Annuity is a financial product that provides a series of regular payments

made over a period of time. These payments can be made monthly, quarterly,
annually, or at other intervals.

Annuity involve two types which are the Ordinary Annuity and Annuity Due.

Understanding Annuity ensures accurate budgeting and financial stability in

different engineering projects.

REFERENCE:

https://www.investopedia.com/terms/o/ordinaryannuity.asp

https://www.investopedia.com/terms/a/annuitydue.asp

https://hdfclife.com/annuity-due

https://hdfcliffe.com/ordinary-annuity

https://scribd.com/document/602117123/HANDOUT-8-2-Solved-Problems-in-
Annuity-Due-1

https://scribd.com/document/602117123/HANDOUT-8-2-Solved-Problems-in-
Ordinary-Annuity-1https;//www.chatgpt.com