6: MATHEMATICS OF

FINANCE

Rupinder Sekhon and Roberta Bloom

De Anza College
CHAPTER OVERVIEW
6: MATHEMATICS OF FINANCE
This chapter covers principles of finance. After completing this chapter students should be able to:
solve financial problems that involve simple interest; solve problems involving compound interest;
find the future value of an annuity; find the amount of payments to a sinking fund; find the present
value of an annuity; and find an installment payment on a loan.

6.1: SIMPLE INTEREST AND DISCOUNT

It costs to borrow money. The rent one pays for the use of money is called the interest. The amount
of money that is being borrowed or loaned is called the principal or present value. Simple interest
is paid only on the original amount borrowed. When the money is loaned out, the person who
borrows the money generally pays a fixed rate of interest on the principal for the time period he
keeps the money.

6.1.1: SIMPLE INTEREST AND DISCOUNT (EXERCISES)

6.2: COMPOUND INTEREST
6.2.1: COMPOUND INTEREST (EXERCISES)
6.3: ANNUITIES AND SINKING FUNDS
This section addressed problems where timely payments are made in an account. When a sequence of payments of some fixed amount
are made in an account at equal intervals of time, we call that an annuity.

6.3.1: ANNUITIES AND SINKING FUNDS (EXERCISES)

6.4: PRESENT VALUE OF AN ANNUITY AND INSTALLMENT PAYMENT

6.4.1: PRESENT VALUE OF AN ANNUITY AND INSTALLMENT PAYMENT (EXERCISES)

6.5: MISCELLANEOUS APPLICATION PROBLEMS
We have already developed the tools to solve most finance problems. Now we use these tools to solve some application problems.

6.5.1: MISCELLANEOUS APPLICATION PROBLEMS (EXERCISES)

6.6: CLASSIFICATION OF FINANCE PROBLEMS

6.6.1: CLASSIFICATION OF FINANCE PROBLEMS (EXERCISES)

6.7: CHAPTER REVIEW

1 2/13/2021
6.1: Simple Interest and Discount
Learning Objectives
In this section, you will learn to:
1. Find simple interest.
2. Find present value.
3. Find discounts and proceeds.

Simple Interest
It costs to borrow money. The rent one pays for the use of money is called the interest. The amount of money that is being
borrowed or loaned is called the principal or present value. Simple interest is paid only on the original amount borrowed.
When the money is loaned out, the person who borrows the money generally pays a fixed rate of interest on the principal for
the time period he keeps the money. Although the interest rate is often specified for a year, it may be specified for a week, a
month, or a quarter, etc. The credit card companies often list their charges as monthly rates, sometimes it is as high as 1.5% a
month.

Definition: Simple Interest

If an amount P is borrowed for a time t at an interest rate of r per time period, then the simple interest is given by
I = P ⋅r⋅t (6.1.1)

Definition: Accumulated Value

The total amount A , also called the accumulated value or the future value, is given by
A = P +I

= P + P rt

or

A = P (1 + rt) (6.1.2)

where interest rate r is expressed in decimals.

Example 6.1.1
Ursula borrows $600 for 5 months at a simple interest rate of 15% per year. Find the interest, and the total amount she is
obligated to pay?
Solution
The interest is computed by multiplying the principal with the interest rate and the time.
I = Prt

5
= $600(0.15)
12

= $37.50

The total amount is

A = P+I

= $600 + $37.50

= $637.50

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 Incidentally, the total amount can be computed directly via Equation 6.1.2 as
A = P (1 + rt)

= $600[1 + (0.15)(5/12)]

= $600(1 + 0.0625)

= $637.50

Example 6.1.2
Jose deposited $2500 in an account that pays 6% simple interest. How much money will he have at the end of 3 years?
Solution
The total amount or the future value is given by Equation 6.1.2.
A = P (1 + rt)

= $2500[1 + (.06)(3)]

A = $2950

Example 6.1.3
Darnel owes a total of $3060 which includes 12% interest for the three years he borrowed the money. How much did he
originally borrow?
Solution
This time we are asked to compute the principal P via Equation 6.1.2.
$3060 = P[1 + (0.12)(3)]

$3060 = P(1.36)

$3060
=P
1.36

$2250 = P  Darnel originally borrowed $2250. 

Example 6.1.4
A Visa credit card company charges a 1.5% finance charge each month on the unpaid balance. If Martha owed $2350 and
has not paid her bill for three months, how much does she owe now?
Solution
Before we attempt the problem, the reader should note that in this problem the rate of finance charge is given per month
and not per year.
The total amount Martha owes is the previous unpaid balance plus the finance charge.

A = $2350 + $2350(.015)(3) = $2350 + $105.75 = $2455.75

Alternatively, again, we can compute the amount directly by using formula A = P (1 + rt)

A = $2350[1 + (.015)(3)] = $2350(1.045) = $2455.75

Discount and Proceeds

Banks often deduct the simple interest from the loan amount at the time that the loan is made. When this happens, we say the
loan has been discounted. The interest that is deducted is called the discount, and the actual amount that is given to the

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borrower is called the proceeds. The amount the borrower is obligated to repay is called the maturity value.

Discount and Proceeds

If an amount M is borrowed for a time t at a discount rate of r per year, then the discount D is

D = M ⋅r⋅t (6.1.3)

The proceeds P , the actual amount the borrower gets, is given by

P = M −D

= M − M rt

or
P = M (1 − rt) (6.1.4)

where interest rate r is expressed in decimals.

Example 6.1.5
Francisco borrows $1200 for 10 months at a simple interest rate of 15% per year. Determine the discount and the
proceeds.
Solution
The discount D is the interest on the loan that the bank deducts from the loan amount.
D = Mrt

10
D = $1200(0.15) ( ) = $150
12

Therefore, the bank deducts $150 from the maturity value of $1200, and gives Francisco $1050. Francisco is obligated to
repay the bank $1200.
In this case, the discount D = $150, and the proceeds

P = $1200 − $150 = $1050.

Example 6.1.6
If Francisco wants to receive $1200 for 10 months at a simple interest rate of 15% per year, what amount of loan should
he apply for?
Solution
In this problem, we are given the proceeds P and are being asked to find the maturity value M .
We have P = $1200, r = 0.15, t = 10/12 . We need to find M .
We know P = M −D

but also D = M rt
therefore
P = M − Mrt

= M(1 − rt)

10
$1200 = M [1 − (0.15) ( )]
12

We need to solve for M .

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 $1200 = M(1 − 0.125)

$1200 = M(0.875)

$1200
=M
0.875

$1371.43 = M

Therefore, Francisco should ask for a loan for $1371.43.

The bank will discount $171.43 and Francisco will receive $1200.

Summary
Below is a summary of the formulas we developed for calculations involving simple interest:

Simple interest
If an amount P is borrowed for a time t at an interest rate of r per time period, then the simple interest is given by

I = P ⋅r⋅t

The total amount A , also called the accumulated value or the future value, is given by

A = P + I = P + P rt

or

A = P (1 + rt)

where interest rate r is expressed in decimals.

Discount and Proceeds

If an amount M is borrowed for a time t at a discount rate of r per year, then the discount D is

D = M ⋅r⋅t

The proceeds P , the actual amount the borrower gets, is given by

P = M −D

P = M − M rt

or

P = M (1 − rt)

where interest rate r is expressed in decimals.

At the end of the loan's term, the borrower repays the entire maturity amount M .

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6.1.1: Simple Interest and Discount (Exercises)
SECTION 6.1 PROBLEM SET: SIMPLE INTEREST AND DISCOUNT
Do the following simple interest problems.

1) If an amount of $2,000 is borrowed at a simple interest rate of 10% 2) You borrow $4,500 for six months at a simple interest rate of 8%.
for 3 years, how much is the interest? How much is the interest?

3) John borrows $2400 for 3 years at 9% simple interest. How much 4) Jessica takes a loan of $800 for 4 months at 12% simple interest.
will he owe at the end of 3 years? How much does she owe at the end of the 4-month period?
6) Jamie just paid off a loan of $2,544, the principal and simple interest.
5) If an amount of $2,160, which includes a 10% simple interest for 2
If he took out the loan six months ago at 12% simple interest, what was
years, is paid back, how much was borrowed 2 years earlier?
the amount borrowed?
7) Shanti charged $800 on her charge card and did not make a payment 8) A credit card company charges 18% interest on the unpaid balance.
for six months. If there is a monthly charge of 1.5%, how much does If you owed $2000 three months ago and have been delinquent since,
she owe? how much do you owe?

SECTION 6.1 PROBLEM SET: SIMPLE INTEREST AND DISCOUNT

Do the following simple interest problems.

9) An amount of $2000 is borrowed for 3 years. At the end of the three 10) Nancy borrowed $1,800 and paid back $1,920, four months later.
years, $2660 is paid back. What was the simple interest rate? What was the simple interest rate?

11) Jose agrees to pay $2,000 in one year at an interest rate of 12%. The 12) Tasha signs a note for a discounted loan agreeing to pay $1200 in 8
bank subtracts the discount of 12% of $2,000, and gives the rest to Jose. months at an 18% discount rate. Determine the amount of the discount
Find the amount of the discount and the proceeds to Jose. and the proceeds to her.
13) An amount of $8,000 is borrowed at a discount rate of 12%, find the 14) An amount of $4,000 is borrowed at a discount rate of 10%, find
proceeds if the length of the loan is 7 months. the proceeds if the length of the loan is 180 days.
16) Mary owes Jim $750, and wants to repay him. Mary decides to
15) Derek needs $2400 new equipment for his shop. He can borrow this
borrow the amount from her bank at a discount rate of 16%. If she
money at a discount rate of 14% for a year. Find the amount of the loan
borrows the money for 10 months, find the amount of the loan she
he should ask for so that his proceeds are $2400.
should ask for so that her proceeds are $750?

SECTION 6.2 PROBLEM SET: COMPOUND INTEREST

Do the following compound interest problems involving a lump-sum amount.

1) What will the final amount be in 4 years if $8,000 is invested at 9.2% 2) How much should be invested at 10.3% for it
compounded monthly.? to amount to $10,000 in 6 years?

3) Lydia's aunt Rose left her $5,000. Lydia spent $1,000 on her wardrobe
4) Thuy needs $1,850 in eight months for her college tuition. How
and deposited the rest
much money should she deposit lump sum in an account paying 8.2%
in an account that pays 6.9% compounded daily. How much money will
compounded monthly to achieve that goal?
she have in 5 years?
6) EZ Photo Company needs five copying machines in 2 1/2 years for a
5) Bank A pays 5% compounded daily, while
total cost of $15,000. How much money should be deposited now to
Bank B pays 5.12% compounded monthly. Which bank pays more?
pay for these machines, if the interest rate is 8% compounded
Explain.
semiannually?
7) Jon's grandfather was planning to give him $12,000 in 10 years. Jon
has convinced his grandfather to pay him $6,000 now, instead. 8) What will be the price of a $20,000 car in 5 years if the inflation rate
If Jon invests this $6,000 at 7.5% compounded continuously, how much is 6%?
money will he have in 10 years?

SECTION 6.2 PROBLEM SET: COMPOUND INTEREST

Do the following compound interest problems.

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9) At an interest rate of 8% compounded continuously, how many years 10) If an investment earns 10% compounded continuously, in how
will it take to double your money? many years will it triple? .
12) Mr. and Mrs. Tran are expecting a baby girl in a few days. They
11) The City Library ordered a new computer system costing $158,000;
want to put away money for her college education now. How much
it will be delivered in 6 months, and the full amount will be due 30 days
money should they deposit in an account paying 10.2% so they will
after delivery. How much must be deposited today into an account
have $100,000 in 18 years to pay for their daughter's educational
paying 7.5% compounded monthly to have $158,000 in 7 months?
expenses?
13) Find the effective interest rate for an account paying 7.2% 14) If a bank pays 5.75% compounded monthly, what is the effective
compounded quarterly. interest rate?
15) The population of the African nation of Cameroon was 12 million
16) According to the Law of 70, if an amount grows at an annual rate of
people in the year 2015; it has been growing at the rate of 2.5% per
1%, then it doubles every seventy years. Suppose a bank pays 5%
year. If the population continues to grow that rate,what will the
interest, how long will it take for you to double your money? How
population be in 2030?
about at 15%?
(http://databank.worldbank.org/data on 4/26/2016)

SECTION 6.3 PROBLEM SET:ANNUITIES AND SINKING FUNDS

Each of the following problems involve an annuity - a sequence of payments.

1) Find the future value of an annuity of $200 per month for 5 years at 2) How much money should be deposited at the end of each month in
6% compounded monthly. an account paying 7.5% for it to amount to $10,000 in 5 years?

4) Mr. Chang wants to retire in 10 years and can save $650 every three
3) At the end of each month Rita deposits $300 in an account that pays
months. If the interest rate is 7.8%, how much will he have (a) at the
5%. What will the final amount be in 4 years?
end of 5 years? (b) at the end of 10 years?
5) A firm needs to replace most of its machinery in five years at a cost
6) Mrs. Brown needs $5,000 in three years. If the interest rate is 9%,
of $500,000. The company wishes to create a sinking fund to have this
how much should she save at the end of each month to have that
money available in five years. How much should the quarterly deposits
amount in three years?
be if the fund earns 8%?

SECTION 6.3 PROBLEM SET: ANNUITIES AND SINKING FUNDS

Each of the following problems involve an annuity - a sequence of payments.

7) A company has a $120,000 note due in 4 years. How much should be 8) You are now 20 years of age and decide to save $100 at the end of
deposited at the end of each quarter in a sinking fund to payoff the note each month until you are 65. If the interest rate is 9.2%, how much
in four years if the interest rate is 8%? money will you have when you are 65?

9) Is it better to receive $400 at the beginning of each month for six 10) To save money for a vacation, Jill decided to save $125 at the
years, or a lump sum of $25,000 today if the interest rate is 7%? beginning of each month for the next 8 months. If the interest rate is
Explain. 7%, how much money will she have at the end of 8 months?
12) If the inflation rate stays at 6% per year for the next five years, how
11) Mrs. Gill puts $2200 at the end of each year in her IRA account that
much will the price be of a $15,000 car in five years? How much must
earns 9% per year. How much total money will she have in this account
you save at the end of each month at an interest rate of 7.3% to buy that
after 20 years?
car in 5 years?

SECTION 6.4 PROBLEM SET: PRESENT VALUE OF AN ANNUITY AND INSTALLMENT

PAYMENT
For the following problems, show all work.

1) Shawn has won a lottery paying him $10,000 per month for the next
2) Sonya bought a car for $15,000. Find the monthly payment if the
20 years. He'd rather have the whole amount in one lump sum today. If
loan is to be amortized over 5 years at a rate of 10.1%.
the current interest rate is 8.2%, how much money can he hope to get?
3) You determine that you can afford $250 per month for a car. What is
4) Compute the monthly payment for a house loan of $200,000 to be
the maximum amount you can afford to pay for a car if the interest rate
financed over 30 years at an interest rate of 10%.
is 9% and you want to repay the loan in 5 years?
5) If the $200,000 loan in the previous problem is financed over 15 6) Friendly Auto offers Jennifer a car for $2000 down and $300 per
years rather than 30 years at 10%, what will the monthly payment be? month for 5 years. Jason wants to buy the same car but wants to pay

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 cash. How much must Jason pay if the interest rate is 9.4%?

SECTION 6.4 PROBLEM SET: PRESENT VALUE OF AN ANNUITY AND INSTALLMENT PAYMENT
For the following problems, show all work.

7) The Gomez family bought a house for $450,000. They paid 20% 8) Mr. and Mrs. Wong purchased their new house for $350,000. They
down and amortized the rest at 5.2% over a 30-year period. Find their made a down payment of 15%, and amortized the rest over 30 years. If
monthly payment. the interest rate is 5.8%, find their monthly payment.

9) A firm needs a piece of machinery that has a useful life of 5 years. It 10) Jackie wants to buy a $19,000 car, but she can afford to pay only
has an option of leasing it for $10,000 a year, or buying it for $40,000 $300 per month for 5 years. If the interest rate is 6%, how much does
cash. If the interest rate is 10%, which choice is better? she need to put down?
12) Glen borrowed $10,000 for his college education at 8%
11) Vijay's tuition at college for the next year is $32,000. His parents
compounded quarterly. Three years later, after graduating and finding a
have decided to pay the tuition by making nine monthly payments. If
job, he decided to start paying off his loan. If the loan is amortized over
the interest rate is 6%, what is the monthly payment?
five years at 9%, find his monthly payment for the next five years.

SECTION 6.5 PROBLEM SET: MISCELLANEOUS APPLICATION PROBLEMS

For problems 1 - 4, assume a $200,000 house loan is amortized over 30 years at an interest rate of 5.4%.

1) Find the monthly payment. 2) Find the balance owed after 20 years.

3) Find the balance of the loan after 100 payments. 4) Find the monthly payment if the original loan were amortized over
\ 15 years.

6) An amount of $2000 is borrowed for a year at a rate of 7%. Make an

5) Mr. Patel wants to pay off his car loan. The monthly payment for his
amortization schedule showing the monthly payment, the monthly
car is $365, and he has 16 payments left. If the loan was financed at
interest on the outstanding balance, the portion of the payment going
6.5%, how much does he owe?
toward reducing the debt, and the balance.

SECTION 6.5 PROBLEM SET: MISCELLANEOUS APPLICATION PROBLEMS

7) Fourteen months after Dan bought his new car he lost his job. His car
was repossessed by his lender after he made only 14 monthly payments 8) You have a choice of either receiving $5,000 at the end of each year
of $376 each. If the loan was financed over a 4-year period at an interest for the next 5 years or receiving $3000 per year for the next 10 years. If
rate of 6.3%, how much did the car cost the lender? In other words, how the current interest rate is 9%, which is better?
much did Dan still owe on the car?
10) Assume Mr. Smith has reached retirement and has $250,000 in an
9) Mr. Smith is planning to retire in 25 years and would like to have
account which is earning 6.5%. He would now like to make equal
$250,000 then. What monthly payment made at the end of each month
monthly withdrawals for the next 15 years to completely deplete this
to an account that pays 6.5% will achieve his objective?
account. Find the withdrawal payment.
12) Assume Mrs. Garcia has reached retirement and has accumulated
11) Mrs. Garcia is planning to retire in 20 years. She starts to save for
the amount found in question 13 in a retirement savings account. She
retirement by depositing $2000 each quarter into a retirement
would now like to make equal monthly withdrawals for the next 15
investment account that earns 6% interest compounded quarterly. Find
years to completely deplete this account. Find the withdrawal payment.
the accumulated value of her retirement savings at the end of 20 years.
Assume the account now pays 5.4% compounded monthly.

SECTION 6.5 PROBLEM SET: MISCELLANEOUS APPLICATION PROBLEMS

13) A ten-year $1,000 bond pays $35 every six months. If the current 14) Find the fair market value of the ten-year $1,000 bond that pays $35
interest rate is 8.2%, find the fair market value of the bond. every six months, if the current interest rate has dropped to 6%.
Hint: You must do the following. Hint: You must do the following.
a) Find the present value of $1000. a) Find the present value of $1000.
b) Find the present value of the $35 payments. b) Find the present value of the $35 payments.
c) The fair market value of the bond = a + b c) The fair market value of the bond = a + b

15) A twenty-year $1,000 bond pays $30 every six months. If the 16) Find the fair market value of the twenty-year $1,000 bond that pays
current interest rate is 4.2%, find the fair market value of the bond. $30 every six months, if the current interest rate has increased to 7.5%.
Hint: You must do the following.

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a) Find the present value of $1000.
b) Find the present value of the $30 payments.
c) The fair market value of the bond = a + b

SECTION 6.5 PROBLEM SET: MISCELLANEOUS APPLICATION PROBLEMS

18) Mr. Singh is 38 and plans to retire at age 65. He opens a retirement
17) Mr. and Mrs. Nguyen deposit $10,000 into a college investment savings account.
account when their new baby grandchild is born. The account earns a. Mr. Singh wants to save enough money to
6.25% interest compounded quarterly. accumulate $500,000 by the time he retires.
a, When their grandchild reaches the age of 18, what is the accumulated The retirement investment account pays 7% interest compounded
value of the college investment account? monthly. How much does he need to deposit each month to achieve this
b, The Nguyen’s grandchild has just reached the age of 18 and started goal?
college. If she is to withdraw the money in the college savings account b. Mr. Singh has now reached at 65 and retires.
n equal monthly payments over the next 4 years, how much money will How much money can he withdraw each month for 25 years if the
be withdrawn each month? retirement investment account now pays 5.2% interest, compounded
monthly?

SECTION 6.6 PROBLEM SET: CLASSIFICATION OF FINANCE PROBLEMS

Let the letters A, B, C, D, E and F be represented as follows:
A = FV of a lump-sum C = FV of an annuity E = Installment payment
B = PV of a lump-sum D = Sinking fund payment F = PV of an annuity
Classify each by writing the appropriate letter in the box, and write an equation for solution.
1) What monthly deposits made to an account paying 9% will grow to $10,000 in 4 years?
2) An amount of $4000 is invested at 6% compounded daily. What will the final amount be in 5 years?
3) David has won a lottery paying him $10,000 per month for the next 20 years. He'd rather have the whole amount in one
lump sum now. If the current interest rate is 7%, how much money can he hope to get?
4) Each month Linda deposits $250 in an account that pays 9%. How much money will she have in 4 years?
5) Find the monthly payment for a $15,000 car if the loan is amortized over 4 years at a rate of 10%.
6) What lump-sum deposited in an account paying 7% compounded daily will grow to $10,000 in 5 years?
7) What amount of quarterly payments will amount to $250,000 in 5 years at a rate of 8%?
8) The Chang family bought their house 25 years ago. They had their loan financed for 30 years at an interest rate of 11%
resulting in a payment of $1350 a month. Find the balance of the loan.
9-10) A 10-year $1000 bond pays $35 every six months. If the current interest rate is 8%, in order to find the fair market value
of the bond, we need to find the following.
9) The present value of $1000. 10) The present value of the $35 per six month payments.
SECTION 6.6 PROBLEM SET: CLASSIFICATION OF FINANCE PROBLEMS
A = FV of a lump-sum C = FV of an annuity E = Installment payment
B = PV of a lump-sum D = Sinking fund payment F = PV of an annuity
11) What lump-sum deposit made today is equal to 33 monthly deposits of $500 if the interest rate is 8%?
12) What monthly deposits made to an account paying 10% will accumulated to $10,000 in six years?
13) A department store charges a finance charge of 1.5% per month on the outstanding balance.
If Ned charged $400 three months ago and has not paid his bill, how much does he owe?
14) What will the value of $300 monthly deposits be in 10 years if the account pays 12% compounded monthly?
15) What lump-sum deposited at 6% compounded daily will grow to $2000 in three years?

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16) A company buys an apartment complex for $5,000,000 and amortizes the loan over 10 years.
What is the yearly payment if the interest rate is 14%?
17) In 2002, a house in Rock City cost $300,000. Real estate in Rock City has been increasing in value at the annual rate of
5.3%.. Find the price of that house in 2016.
18) You determine that you can afford to pay $400 per month for a car. What is the maximum price you can pay for a car if the
interest rate is 11% and you want to repay the loan in 4 years?
19) A business needs $350,000 in 5 years. How much lump-sum should be put aside in an account that pays 9% so that five
years from now the company will have $350,000?
20) A person wishes to have $500,000 in a pension fund 20 years from now. How much should he deposit each month in an
account paying 9% compounded monthly?

SECTION 6.7 PROBLEM SET: CHAPTER REVIEW

1) Manuel borrows $800 for 6 months at 18% simple interest. How much does he owe at the end of 6 months?
2) The population of a city is 65,000 and expects to grow at a rate of 2.3% per year for the next 10 years. What will the
population of this city be in 10 years?
3) The Gill family is buying a $250,000 house with a 10% down payment. If the loan is financed over a 30 year period at an
interest rate of 4.8%, what is the monthly payment?
4) Find the monthly payment for the house in the above problem if the loan was amortized over 15 years.
5) You look at your budget and decide that you can afford $250 per month for a car. What is the maximum amount you can
afford to pay for the car if the interest rate is 8.6% and you want to finance the loan over 5 years?
6) Mr. Nakahama bought his house in the year 1998. He had his loan financed for 30 years at an interest rate of 6.2% resulting
in a monthly payment of $1500. In 2015, 17 years later, he paid off the balance of the loan. How much did he pay?
7) Lisa buys a car for $16,500, and receives $2400 for her old car as a trade-in value. Find the monthly payment for the
balance if the loan is amortized over 5 years at 8.5%.
8) A car is sold for $3000 cash down and $400 per month for the next 4 years. Find the cash value of the car today if the
money is worth 8.3% compounded monthly.
9) An amount of $2300 is borrowed for 7 months at a simple interest rate of 16%. Find the discount and the proceeds.
10) Marcus has won a lottery paying him $5000 per month for the next 25 years. He'd rather have the whole amount in one
lump sum today. If the current interest rate is 7.3%, how much money can he hope to get?
11) In the year 2000, an average house in Star City cost $250,000. If the average annual inflation rate for the past years has
been about 4.7%, what was the price of that house in 2015?
12) Find the 'fair market' value of a ten-year $1000 bond which pays $30 every six months if the current interest rate is 7%.
What if the current interest rate is 5%?
13) A Visa credit card company has a finance charge of 1.5% per month (18% per year) on the outstanding balance. John owed
$3200 and has been delinquent for 5 months. How much total does he owe, now?
14) You want to purchase a home for $200,000 with a 30-year mortgage at 9.24% interest. Find a) the monthly payment and b)
the balance owed after 20 years.
15) When Jose bought his car, he amortized his loan over 6 years at a rate of 9.2%, and his monthly payment came out to be
$350 per month. He has been making these payments for the past 40 months and now wants to pay off the remaining balance.
How much does he owe?
16) A lottery pays $10,000 per month for the next 20 years. If the interest rate is 7.8%, find both its present and future values.
SECTION 6.7 PROBLEM SET: CHAPTER REVIEW
17) A corporation estimates it will need $300,000 in 8 years to replace its existing machinery. How much should it deposit
each quarter in a sinking fund earning 8.4% compounded quarterly to meet this obligation?

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18) Our national debt in 1992 was about $4 trillion. If the annual interest rate was 7% then, what was the daily interest on the
national debt?
19) A business must raise $400,000 in 10 years. What should be the size of the owners' monthly payments to a sinking fund
paying 6.5% compounded monthly?
20) The population of a city of 80,000 is growing at a rate of 3.2% per year. What will the population be at the end of 10
years?
21) A sum of $5000 is deposited in a bank today. What will the final amount be in 20 months if the bank pays 9% and the
interest is compounded monthly?
22) A manufacturing company buys a machine for $500 cash and $50 per month for the next 3 years. Find the cash value of
the machine today if the money is worth 6.2% compounded monthly.
23) The United States paid about 4 cents an acre for the Louisiana Purchase in 1803. Suppose the value of this property grew
at a rate of 5.5% annually. What would an acre be worth in the year 2000?
24) What amount should be invested per month at 9.1% compounded monthly so that it will become $5000 in 17 months?
25) A machine costs $8000 and has a life of 5 years. It can be leased for $160 per month for 5 years with a cash down payment
of $750. The current interest rate is 8.3%. Is it cheaper to lease or to buy?
26) If inflation holds at 5.2% per year for 5 years, what will be the cost in 5 years of a car that costs $16,000 today? How much
will you need to deposit each quarter in a sinking fund earning 8.7% per year to purchase the new car in 5 years?
27) City Bank pays an interest rate of 6%, while Western Bank pays 5.8% compounded continuously. Which one is a better
deal?
28) Ali has inherited $20,000 and is planning to invest this amount at 7.9% interest. At the same time he wishes to make equal
monthly withdrawals to use up the entire sum in 5 years. How much can he withdraw each month?
29) Jason has a choice of receiving $300 per month for the next 5 years or $500 per month for the next 3 years. Which one is
worth more if the current interest rate is 7.7%?
30) If a bank pays 6.8% compounded continuously, how long will it take to double your money?
31) A mutual fund claims a growth rate of 8.3% per year. If $500 per month is invested, what will the final amount be in 15
years?
32) Mr. Vasquez has been given two choices for his compensation. He can have $20,000 cash plus $500 per month for 10
years, or he can receive $12,000 cash plus $1000 per month for 5 years. If the interest rate is 8%, which is the better offer?
SECTION 6.7 PROBLEM SET: CHAPTER REVIEW
33) How much should Mr. Shackley deposit in a trust account so that his daughter can withdraw $400 per month for 4 years if
the interest rate is 8%?
34) Mr. Albers borrowed $425,000 from the bank for his new house at an interest rate of 4.7%. He will make equal monthly
payments for the next 30 years. How much money will he end up paying the bank over the life of the loan, and how much is
the interest?
35) Mr. Tong puts away $500 per month for 10 years in an account that earns 9.3%. After 10 years, he decides to withdraw
$1,000 per month. If the interest rate stays the same, how long will it take Mr. Tong to deplete the account?
36) An amount of $5000 is borrowed for 15 months at an interest rate of 9%. Find the monthly payment and construct an
amortization schedule showing the monthly payment, the monthly interest on the outstanding balance, the amount of payment
contributing towards debt, and the outstanding debt.

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6.2: Compound Interest
Learning Objectives
In this section, you will learn to:
1. Find the future value of a lump-sum.
2. Find the present value of a lump-sum.
3. Find the effective interest rate.

Compound Interest
In the last section, we examined problems involving simple interest. Simple interest is generally charged when the lending
period is short and often less than a year. When the money is loaned or borrowed for a longer time period, if the interest is paid
(or charged) not only on the principal, but also on the past interest, then we say the interest is compounded.
Suppose we deposit $200 in an account that pays 8% interest. At the end of one year, we will have $200 + $200(.08) = $200(1
+ .08) = $216.
Now suppose we put this amount, $216, in the same account. After another year, we will have $216 + $216(.08) = $216(1 +
.08) = $233.28.
So an initial deposit of $200 has accumulated to $233.28 in two years. Further note that had it been simple interest, this
amount would have accumulated to only $232. The reason the amount is slightly higher is because the interest ($16) we earned
the first year, was put back into the account. And this $16 amount itself earned for one year an interest of $16(.08) = $1.28,
thus resulting in the increase. So we have earned interest on the principal as well as on the past interest, and that is why we call
it compound interest.
Now suppose we leave this amount, $233.28, in the bank for another year, the final amount will be $233.28 + $233.28(.08) =
$233.28(1 + .08) = $251.94.
Now let us look at the mathematical part of this problem so that we can devise an easier way to solve these problems.
After one year, we had $200(1 + .08) = $216
After two years, we had $216(1 + .08)
But $216 = $200(1 + .08), therefore, the above expression becomes
2
$200(1 + .08)(1 + .08) = $200(1 + .08 ) = $233.28

After three years, we get

$233.28(1 + .08) = $200(1 + .08)(1 + .08)(1 + .08)

which can be written as

3
$200(1 + .08 ) = $251.94

Suppose we are asked to find the total amount at the end of 5 years, we will get
5
200(1 + .08 ) = $293.87

We summarize as follows:

The original amount $200 = $200

The amount after one year $200(1 + .08) = $216

The amount after two years $200(1 + .08)2 = $233.28

The amount after three years $200(1 + .08)3 = $251.94

The amount after five years $200(1 + .08)5 = $293.87

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The amount after t years $200(1 + .08)t

COMPOUNDING PERIODS
Banks often compound interest more than one time a year. Consider a bank that pays 8% interest but compounds it four times
a year, or quarterly. This means that every quarter the bank will pay an interest equal to one-fourth of 8%, or 2%.
Now if we deposit $200 in the bank, after one quarter we will have $200 (1 + .08

4
) or $204.
2
After two quarters, we will have $200(1 + .08

4
) or $208.08.
4
After one year, we will have $200(1 + .08

4
) or $216.49.
12
After three years, we will have $200(1 + .08

4
) or $253.65, etc.

The original amount $200 = $200

The amount after one quarter $200 (1 +

.08

4
) = $204
2
The amount after two quarters $200(1 +
.08
) = $208.08
4

4
The amount after one year $200(1 +
.08
) = $216.49
4

8
The amount after two years $200(1 +
.08
) = $234.31
4

12
The amount after three years $200(1 +
.08
) = $253.65
4

20
The amount after five years $200(1 +
.08
) = $297.19
4

4t
The amount after t years $200(1 +
.08
)
4

Therefore, if we invest a lump-sum amount of P dollars at an interest rate r, compounded n times a year, then after t years the
final amount is given by
nt
r
A = P (1 + ) (6.2.1)
n

nt
The following examples use the compound interest formula A = P (1 + r

n
)

Example 6.2.1
If $3500 is invested at 9% compounded monthly, what will the future value be in four years?
Solution
Clearly an interest of .09/12 is paid every month for four years. The interest is compounded 4 × 12 = 48 times over the
four-year period. We get
48
.09 48
A = $3500 (1 + ) = $3500(1.0075 ) = $5009.92
12

$3500 invested at 9% compounded monthly will accumulate to $5009.92 in four years.

Example 6.2.2
How much should be invested in an account paying 9% compounded daily for it to accumulate to $5,000 in five years?
Solution
We know the future value, but need to find the principal.

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 365×5
.09
$5000 = P (1 + )
365

$5000 = P (1.568225)

$3188.32 = P

$3188,32 invested into an account paying 9% compounded daily will accumulate to $5,000 in five years.

Example 6.2.3
If $4,000 is invested at 4% compounded annually, how long will it take to accumulate to $6,000?
Solution
n =1 because annual compounding means compounding only once per year. The formula simplifies to A = (1 + r)
t

when n = 1 .
t
$6000 = 4000(1 + .04)

6000
t
= 1.04
4000
t
1.5 = 1.04

We use logarithms to solve for the value of t because the variable t is in the exponent.

t = log1.04(1.5)

Using the change of base formula we can solve for t :

ln(1.5)
t = = 10.33 years 
ln(1.04)

It takes 10.33 years for $4000 to accumulate to $6000 if invested at 4% interest, compounded annually

Example 6.2.4
If $5,000 is invested now for 6 years what interest rate compounded quarterly is needed to obtain an accumulated value of
$8000.
Solution
We have n = 4 for quarterly compounding.
r 4×6

$8000 = $5000 (1 + )
4

$8000 r 24

= (1 + )
$5000 4
24
r
1.6 = (1 + )
4

We use roots to solve for t because the variable r is in the base, whereas the exponent is a known number.
24 −
−− r
√1.6 = 1 +
4

Many calculators have a built in “nth root” key or function. In the TI-84 calculator, this is found in the Math menu. Roots
can also be calculated as fractional exponents; if necessary, the previous step can be rewritten as
1/24
r
1.6 =1+
4

Evaluating the left side of the equation gives

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 r
1.0197765 = 1 +
4

r
0.0197765 =
4

r = 4(0.0197765) = 0.0791

An interest rate of 7.91% is needed in order for $5000 invested now to accumulate to $8000 at the end of 6 years, with
interest compounded quarterly.

Effective Interest Rate

Banks are required to state their interest rate in terms of an “effective yield” ” or “effective interest rate”, for comparison
purposes. The effective rate is also called the Annual Percentage Yield (APY) or Annual Percentage Rate (APR).
The effective rate is the interest rate compounded annually would be equivalent to the stated rate and compounding periods.
The next example shows how to calculate the effective rate.
To examine several investments to see which has the best rate, we find and compare the effective rate for each investment.
Example 6.2.5 illustrates how to calculate the effective rate.

Example 6.2.5
If Bank A pays 7.2% interest compounded monthly, what is the effective interest rate?
If Bank B pays 7.25% interest compounded semiannually, what is the effective interest rate? Which bank pays more
interest?
Solution
Bank A: Suppose we deposit $1 in this bank and leave it for a year, we will get
12
0.072
1 (1 + ) = 1.0744
12

rEFF = 1.0744 − 1 = 0.0744

We earned interest of $1.0744 - $1.00 = $.0744 on an investment of $1.

The effective interest rate is 7.44%, often referred to as the APY or APR.
Bank B: The effective rate is calculated as
2
0.072
rEFF = 1 (1 + ) − 1 = .0738
2

The effective interest rate is 7.38%.

Bank A pays slightly higher interest, with an effective rate of 7.44%, compared to Bank B with effective rate 7.38%.

Continuous Compounding
Interest can be compounded yearly, semiannually, quarterly, monthly, and daily. Using the same calculation methods, we could
compound every hour, every minute, and even every second. As the compounding period gets shorter and shorter, we move
toward the concept of continuous compounding.
But what do we mean when we say the interest is compounded continuously, and how do we compute such amounts? When
interest is compounded "infinitely many times", we say that the interest is compounded continuously. Our next objective is to
derive a formula to model continuous compounding.
Suppose we put $1 in an account that pays 100% interest. If the interest is compounded once a year, the total amount after one
year will be $1(1 + 1) = $2 .
If the interest is compounded semiannually, in one year we will have $1(1 + 1/2) = $2.25 2

If the interest is compounded quarterly, in one year we will have $1(1 + 1/4) = $2.44 4

If the interest is compounded monthly, in one year we will have $1(1 + 1/12) = $2.61 12

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 If the interest is compounded daily, in one year we will have $1(1 + 1/365) 365
= $2.71

We show the results as follows:

Frequency of compounding Formula Total amount

Annually $1(1 + 1) $2

Semiannually $1(1 + 1/2)

2
$2.25
Quarterly $1(1 + 1/4 )
4
= $2.44 $2.44140625
Monthly $1(1 + 1/12)
12
$2.61303529
Daily $1(1 + 1/365)
365
$2.71456748
Hourly $1(1 + 1/8760)
8760
$2.71812699
Every minute $1(1 + 1/525600)
525600
$2.71827922
Every Second $1(1 + 1/31536000)
31536000
$2.71828247
Continuously $1(2.718281828 …) $2.718281828...

We have noticed that the $1 we invested does not grow without bound. It starts to stabilize to an irrational number
2.718281828... given the name "e" after the great mathematician Euler.
n
In mathematics, we say that as n becomes infinitely large the expression equals (1 + 1

n
) e.
Therefore, it is natural that the number e play a part in continuous compounding.
nt
It can be shown that as n becomes infinitely large the expression (1 + ) = e r

n
rt

Therefore, it follows that if we invest $P at an interest rate r per year, compounded continuously, after t years the final
amount will be given by
rt
A =P ⋅e

Example 6.2.6
$3500 is invested at 9% compounded continuously. Find the future value in 4 years.
Solution
Using the formula for the continuous compounding, we get A = P e . rt

0.09×4
A = $3500e
0.36
A = $3500e

A = $5016.65

Example 6.2.7
If an amount is invested at 7% compounded continuously, what is the effective interest rate?
Solution
If we deposit $1 in the bank at 7% compounded continuously for one year, and subtract that $1 from the final amount, we
get the effective interest rate in decimals.
0.07
rEFF = 1 e −1

rEFF = 1.0725 − 1

rEFF = .0725 or 7.25%

Example 6.2.8
If an amount is invested at 7% compounded continuously, how long will it take to double?

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 We offer two solutions.
Solution 1 uses logarithms to calculate the exact answer, so it is preferred. We already used this method in Example 6.2.3
to solve for time needed for an investment to accumulate to a specified future value.
Solution 2 provides an estimated solution that is applicable only to doubling time, but not to other multiples. Students
should find out from their instructor if there is a preference as to which solution method is to be used for doubling time
problems.
Solution: Solution 1: Calculating the answer exactly: P e 0.07t
=A .
We don’t know the initial value of the prinicipal but we do know that the accumulated value is double (twice) the
principal.
0.07t
Pe = 2P

We divide both sides by P

.07t
e =2

Using natural logarithm:

.07t = ln(2)

t = ln(2)/.07 = 9.9 years

It takes 9.9 years for money to double if invested at 7% continuous interest.

Solution 2: Estimating the answer using the Law of 70:
The Law of 70 is a useful tool for estimating the time needed for an investment to double in value. It is an approximation
and is not exact and comes from our previous solution. We calculated that

t = ln(2)/r where r was 0.07 in that solution.

Evaluating ln(2) = 0.693, gives t = 0.693/r. Multiplying numerator and denominator by 100 gives t = 69.3/(100r)
If we estimate 69.3 by 70 and state the interest rate as a percent instead of a decimal, we obtain the Law of 70:
Law of 70: The number of years required to double money ≈ 70 ÷ interest rate
Note that this is an approximate estimate only.
The interest rate is stated as a percent (not decimal) in the Law of 70.
Using the Law of 70 gives us t ≈ 70/7=10 which is close to but not exactly the value of 9.9 years calculated in Solution 1.
Approximate Doubling Time in Years as a Function of Interest Rate
Annual interest rate 1% 2% 3% 4% 5% 6% 7% 8% 9% 10%

Number of years to double money 70 35 23 18 14 12 10 9 8 7

The pattern in the table approximates the Law of 70.

With technology available to do calculations using logarithms, we would use the Law of 70 only for quick estimates of
doubling times. Using the Law of 70 as an estimate works only for doubling times, but not other multiples, so it’s not a
replacement for knowing how to find exact solutions.
However, the Law of 70 can be useful to help quickly estimate many “doubling time” problems mentally, which can be
useful in compound interest applications as well as other applications involving exponential growth.

Example 6.2.9
a. At the peak growth rate in the 1960’s the worlds population had a doubling time of 35 years. At that time,
approximately what was the growth rate?

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 b. As of 2015, the world population’s annual growth rate was approximately 1.14%. Based on that rate, find the
approximate doubling time.
Solution
a. According to the law of 70,
doubling time = 35 ≈ 70 ÷ r
r ≈2 expressed as a percent
Therefore, the world population was growing at an approximate rate of 2% in the 1960’s.
b.. According to the law of 70,
doubling time t ≈ 70 ÷ r = 70 ÷ 1.14 ≈ 61 years
If the world population were to continue to grow at the annual growth rate of 1.14% , it would take approximately 61
years for the population to double.

SECTION 6.2 SUMMARY

Below is a summary of the formulas we developed for calculations involving compound interest:

COMPOUND INTEREST n times per year

1. If an amount P is invested for t years at an interest rate r per year, compounded n times a year, then the future value
is given by
r nt

A = P (1 + ) (6.2.2)
n

P is called the principal and is also called the present value.

2. If a bank pays an interest rate r per year, compounded n times a year, then the effective interest rate is given by
r n

rEFF = (1 + ) −1 (6.2.3)
n

CONTINUOUSLY COMPOUNDED INTEREST

3. If an amount P is invested for t years at an interest rate r per year, compounded continuously, then the future value is
given by
rt
A = Pe (6.2.4)

4. If a bank pays an interest rate r per year, compounded n times a year, then the effective interest rate is given by
r
rEFF = e −1 (6.2.5)

5. The Law of 70 states that

The number of years to double money is approximately 70 ÷ interest rate

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6.2.1: Compound Interest (Exercises)
SECTION 6.2 PROBLEM SET: COMPOUND INTEREST
Do the following compound interest problems involving a lump-sum amount.

1) What will the final amount be in 4 years if $8,000 is invested at 9.2% 2) How much should be invested at 10.3% for it
compounded monthly.? to amount to $10,000 in 6 years?

3) Lydia's aunt Rose left her $5,000. Lydia spent $1,000 on her wardrobe
4) Thuy needs $1,850 in eight months for her college tuition. How
and deposited the rest
much money should she deposit lump sum in an account paying 8.2%
in an account that pays 6.9% compounded daily. How much money will
compounded monthly to achieve that goal?
she have in 5 years?

6) EZ Photo Company needs five copying machines in 2 1/2 years for a

5) Bank A pays 5% compounded daily, while
total cost of $15,000. How much money should be deposited now to
Bank B pays 5.12% compounded monthly. Which bank pays more?
pay for these machines, if the interest rate is 8% compounded
Explain.
semiannually?
7) Jon's grandfather was planning to give him $12,000 in 10 years. Jon
has convinced his grandfather to pay him $6,000 now, instead. If Jon 8) What will be the price of a $20,000 car in 5 years if the inflation rate
invests this $6,000 at 7.5% compounded continuously, how much money is 6%?
will he have in 10 years?

SECTION 6.2 PROBLEM SET: COMPOUND INTEREST

Do the following compound interest problems.

9) At an interest rate of 8% compounded continuously, how many years 10) If an investment earns 10% compounded continuously, in how
will it take to double your money? many years will it triple? .

12) Mr. and Mrs. Tran are expecting a baby girl in a few days. They
11) The City Library ordered a new computer system costing $158,000;
want to put away money for her college education now. How much
it will be delivered in 6 months, and the full amount will be due 30 days
money should they deposit in an account paying 10.2% so they will
after delivery. How much must be deposited today into an account
have $100,000 in 18 years to pay for their daughter's educational
paying 7.5% compounded monthly to have $158,000 in 7 months?
expenses?
13) Find the effective interest rate for an account paying 7.2% 14) If a bank pays 5.75% compounded monthly, what is the effective
compounded quarterly. interest rate?

15) The population of the African nation of Cameroon was 12 million

16) According to the Law of 70, if an amount grows at an annual rate of
people in the year 2015; it has been growing at the rate of 2.5% per
1%, then it doubles every seventy years. Suppose a bank pays 5%
year. If the population continues to grow that rate,what will the
interest, how long will it take for you to double your money? How
population be in 2030?
about at 15%?
(http://databank.worldbank.org/data on 4/26/2016)

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6.3: Annuities and Sinking Funds
Learning Objectives
In this section, you will learn to:
1. Find the future value of an annuity.
2. Find the amount of payments to a sinking fund.

Ordinary Annuity
In the first two sections of this chapter, we examined problems where an amount of money was deposited lump sum in an
account and was left there for the entire time period. Now we will do problems where timely payments are made in an account.
When a sequence of payments of some fixed amount are made in an account at equal intervals of time, we call that an
annuity. And this is the subject of this section.
To develop a formula to find the value of an annuity, we will need to recall the formula for the sum of a geometric series. A
geometric series is of the form:
2 3 n
a + ax + ax + ax + … + ax . (6.3.1)

In a geometric series, each subsequent term is obtained by multiplying the preceding term by a number, called the common
ratio. A geometric series is completely determined by knowing its first term, the common ratio, and the number of terms.
The first term of the series in Equation 6.3.1 is a , the common ratio is x, and the number of terms is n . The following are
some examples of geometric series.

3 + 6 + 12 + 24 + 48

This above series has first term a = 3 and common ratio x = 2

2 + 6 + 18 + 54 + 162

This above series has first term a = 2 and common ratio x = 3

37 + 3.7 + 0.37 + 0.037 + 0.0037

This above series has first term a = 35 and common ratio x = 0.1
In your algebra class, you developed a formula for finding the sum of a geometric series. You probably used r as the symbol
for the ratio, but we are using x because r is the symbol we have been using for the interest rate. The formula for the sum of a
geometric series with first term a and common ratio x is:
n
a (x − 1)
(6.3.2)
x −1

We will use this formula to find the value of an annuity. Consider the following example.

Example 6.3.1
If at the end of each month a deposit of $500 is made in an account that pays 8% compounded monthly, what will the
final amount be after five years?
Solution
There are 60 deposits made in this account. The first payment stays in the account for 59 months, the second payment for
58 months, the third for 57 months, and so on.
The first payment of $500 will accumulate to an amount of $500(1 + 0.08/12)59.
The second payment of $500 will accumulate to an amount of $500(1 + 0.08/12)58.
The third payment will accumulate to $500(1 + 0.08/12)57.

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 The fourth payment will accumulate to $500(1 + 0.08/12)56.
And so on . . .
Finally the next to last (59th) payment will accumulate to $500(1 + 0.08/12) . 1

The last payment is taken out the same time it is made, and will not earn any interest.
To find the total amount in five years, we need to add the accumulated value of these sixty payments.
In other words, we need to find the sum of the following series.
59 58 57
$500(1 + 0.08/12 ) + $500(1 + 0.08/12 ) + $500(1 + 0.08/12 ) + … + $500

Written backwards, we have

2 59
$500 + $500(1 + 0.08/12) + $500(1 + 0.08/12 ) + … + $500(1 + 0.08/12 )

This is a geometric series with a = $500 , r = (1 + 0.08/12, and n = 59 . The sum is

60
$500 [(1 + 0.08/12 ) − 1]
sum =
0.08/12

= $500(73.47686)

= $36, 738.43

When the payments are made at the end of each period rather than at the beginning, we call it an ordinary annuity.

Future Value of an Ordinary Annuity

If a payment of m dollars is made in an account n times a year at an interest r, then the final amount A after t years is
nt
m [(1 + r/n ) − 1]
A = (6.3.3)
r/n

The future value is also called the accumulated value

Example 6.3.2
Tanya deposits $300 at the end of each quarter in her savings account. If the account earns 5.75% compounded
quarterly, how much money will she have in 4 years?
Solution
The future value of this annuity can be found using the above formula.
16
$300 [(1 + .0575/4 ) − 1]
A =
0.0575/4

= $300(17.8463)

= $5353.89

If Tanya deposits $300 into a savings account earning 5.75% compounded quarterly for 4 years, then at the end of 4
years she will have $5,353.89

Example 6.3.3
Robert needs $5,000 in three years. How much should he deposit each month in an account that pays 8% compounded
monthly in order to achieve his goal?
Solution

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 If Robert saves m dollars per month, after three years he will have
36
m [(1 + .08/12 ) − 1]

0.08/12

But we'd like this amount to be $5,000. Therefore,

36
m [(1 + .08/12 ) − 1]
= $5000
.08/12

m(40.5356) = $5000

5000
m =
40.5356

= $123.35

Robert needs to deposit $123.35 at the end of each month for 3 years into an account paying 8% compounded monthly in
order to have $5,000 at the end of 5 years.

Sinking Fund
When a business deposits money at regular intervals into an account in order to save for a future purchase of equipment, the
savings fund is referred to as a “sinking fund”. Calculating the sinking fund deposit uses the same method as the previous
problem.

Example 6.3.4
A business needs $450,000 in five years. How much should be deposited each quarter in a sinking fund that earns 9%
compounded quarterly to have this amount in five years?
Solution
Again, suppose that m dollars are deposited each quarter in the sinking fund. After five years, the future value of the fund
should be $450,000. This suggests the following relationship:
20
m [(1 + 0.09/4 ) − 1]
= $450, 000
0.09/4

m(24.9115) = 450, 000

450000
m =
24.9115

= $18, 063.93

The business needs to deposit $18,063.93 at the end of each quarter for 5 years into an sinking fund earning interest of 9%
compounded quarterly in order to have $450,000 at the end of 5 years.

Annuity Due
If the payment is made at the beginning of each period, rather than at the end, we call it an annuity due. The formula for the
annuity due can be derived in a similar manner. Reconsider Example 1, with the change that the deposits are made at the
beginning of each month.

Example 6.3.5
If at the beginning of each month a deposit of $500 is made in an account that pays 8% compounded monthly, what will
the final amount be after five years?
Solution

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 There are 60 deposits made in this account. The first payment stays in the account for 60 months, the second payment for
59 months, the third for 58 months, and so on.
The first payment of $500 will accumulate to an amount of $500(1 + 0.08/12) . 60

The second payment of $500 will accumulate to an amount of $500(1 + .08/12) . 59

The third payment will accumulate to $500(1 + 0.08/12) . 58

And so on . . .
The last payment is in the account for a month and accumulates to $500(1 + 0.08/12)
To find the total amount in five years, we need to find the sum of the series:
60 59 58
$500(1 + 0.08/12 ) + $500(1 + 0.08/12 ) + $500(1 + 0.08/12 ) + … + $500(1 + 0.08/12)

Written backwards, we have

2 60
$500(1 + 0.08/12) + $500(1 + 0.08/12 ) + … + $500(1 + 0.08/12 )

If we add $500 to this series, and later subtract that $500, the value will not change. We get
2 60
$500 + $500(1 + 0.08/12) + $500(1 + 0.08/12 ) + … + $500(1 + 0.08/12 ) − $500

Except for the last term, we have a geometric series with a = $500, r = (1 + .08/12), and n = 60. Therefore the sum is
61
$500 [(1 + 0.08/12 ) − 1]
A = − $500
0.08/12

= $500(74.9667) − $500

= $37483.35 − $500

= $36983.35

So, in the case of an annuity due, to find the future value, we increase the number of periods n by 1, and subtract one payment.

Future Value of an "Annuity Due"

nt+1
m [(1 + r/n) − 1]
A = −m
r/n

Most of the problems we are going to do in this chapter involve ordinary annuities, therefore, we will down play the
significance of the last formula for the annuity due. We mentioned the formula for the annuity due only for completeness.

Summary
Finally, it is the author's wish that the student learn the concepts in a way that he or she will not have to memorize every
formula. It is for this reason formulas are kept at a minimum. But before we conclude this section we will once again mention
one single equation that will help us find the future value, as well as the sinking fund payment.
If a payment of m dollars is made in an account n times a year at an interest r, then the future value A after t years is
nt
m [(1 + r/n ) − 1]
A =
r/n

Note that the formula assumes that the payment period is the same as the compounding period. If these are not the same, then
this formula does not apply.

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6.3.1: Annuities and Sinking Funds (Exercises)
SECTION 6.3 PROBLEM SET:ANNUITIES AND SINKING FUNDS
Each of the following problems involve an annuity - a sequence of payments.

1) Find the future value of an annuity of $200 per month for 5 years at 2) How much money should be deposited at the end of each month in
6% compounded monthly. an account paying 7.5% for it to amount to $10,000 in 5 years?

4) Mr. Chang wants to retire in 10 years and can save $650 every three
3) At the end of each month Rita deposits $300 in an account that pays
months. If the interest rate is 7.8%, how much will he have (a) at the
5%. What will the final amount be in 4 years?
end of 5 years? (b) at the end of 10 years?
5) A firm needs to replace most of its machinery in five years at a cost
6) Mrs. Brown needs $5,000 in three years. If the interest rate is 9%,
of $500,000. The company wishes to create a sinking fund to have this
how much should she save at the end of each month to have that
money available in five years. How much should the quarterly deposits
amount in three years?
be if the fund earns 8%?

7) A company has a $120,000 note due in 4 years. How much should be 8) You are now 20 years of age and decide to save $100 at the end of
deposited at the end of each quarter in a sinking fund to payoff the note each month until you are 65. If the interest rate is 9.2%, how much
in four years if the interest rate is 8%? money will you have when you are 65?

9) Is it better to receive $400 at the beginning of each month for six 10) To save money for a vacation, Jill decided to save $125 at the
years, or a lump sum of $25,000 today if the interest rate is 7%? beginning of each month for the next 8 months. If the interest rate is
Explain. 7%, how much money will she have at the end of 8 months?

12) If the inflation rate stays at 6% per year for the next five years, how
11) Mrs. Gill puts $2200 at the end of each year in her IRA account that
much will the price be of a $15,000 car in five years? How much must
earns 9% per year. How much total money will she have in this account
you save at the end of each month at an interest rate of 7.3% to buy that
after 20 years?
car in 5 years?

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6.4: Present Value of an Annuity and Installment Payment
Learning Objectives
In this section, you will learn to:
1. Find the present value of an annuity.
2. Find the amount of installment payment on a loan.

PRESENT VALUE OF AN ANNUITY

In Section 6.2, we learned to find the future value of a lump sum, and in Section 6.3, we learned to find the future value of an
annuity. With these two concepts in hand, we will now learn to amortize a loan, and to find the present value of an annuity.
The present value of an annuity is the amount of money we would need now in order to be able to make the payments in the
annuity in the future. In other word, the present value is the value now of a future stream of payments.
We start by breaking this down step by step to understand the concept of the present value of an annuity. After that, the
examples provide a more efficient way to do the calculations by working with concepts and calculations we have already
explored in Sections 6.2 and 6.3.
Suppose Carlos owns a small business and employs an assistant manager to help him run the business. Assume it is January 1
now. Carlos plans to pay his assistant manager a $1000 bonus at the end of this year and another $1000 bonus at the end of the
following year. Carlos’ business had good profits this year so he wants to put the money for his assistant’s future bonuses into
a savings account now. The money he puts in now will earn interest at the rate of 4% per year compounded annually while in
the savings account.

How much money should Carlos put into the savings account now so that he will be able to withdraw $1000 one year from
now and another $1000 two years from now?
At first, this sounds like a sinking fund. But it is different. In a sinking fund, we put money into the fund with periodic
payments to save to accumulate to a specified lump sum that is the future value at the end of a specified time period.
In this case we want to put a lump sum into the savings account now, so that lump sum is our principal, P. Then we want to
withdraw that amount as a series of period payments; in this case the withdrawals are an annuity with $1000 payments at the
end of each of two years.
We need to determine the amount we need in the account now, the present value, to be able to make withdraw the periodic
payments later.

We use the compound interest formula from Section 6.2 with r = 0.04 and n = 1 for annual compounding to determine the
present value of each payment of $1000.
Consider the first payment of $1000 at the end of year 1. Let P1 be its present value
1
$1000 = P1 (1.04 )  so P1 = $961.54

Now consider the second payment of $1000 at the end of year 2. Let P2 is its present value
2
$1000 = P2 (1.04 )  so P2 = $924.56

To make the $1000 payments at the specified times in the future, the amount that Carlos needs to deposit now is the present
value P = P + P = $961.54 + $924.56 = $1886.10
1 2

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The calculation above was useful to illustrate the meaning of the present value of an annuity.
But it is not an efficient way to calculate the present value. If we were to have a large number of annuity payments, the step by
step calculation would be long and tedious.
Example 6.4.1 investigates and develops an efficient way to calculate the present value of an annuity, by relating the future
(accumulated) value of an annuity and its present value.

Example 6.4.1
Suppose you have won a lottery that pays $1,000 per month for the next 20 years. But, you prefer to have the entire
amount now. If the interest rate is 8%, how much will you accept?
Solution
This classic present value problem needs our complete attention because the rationalization we use to solve this problem
will be used again in the problems to follow.
Consider, for argument purposes, that two people Mr. Cash, and Mr. Credit have won the same lottery of $1,000 per
month for the next 20 years. Mr. Credit is happy with his $1,000 monthly payment, but Mr. Cash wants to have the entire
amount now.
Our job is to determine how much Mr. Cash should get. We reason as follows:
If Mr. Cash accepts P dollars, then the P dollars deposited at 8% for 20 years should yield the same amount as the $1,000
monthly payments for 20 years. In other words, we are comparing the future values for both Mr. Cash and Mr. Credit, and
we would like the future values to equal.
Since Mr. Cash is receiving a lump sum of x dollars, its future value is given by the lump sum formula we studied in
Section 6.2, and it is
240
A = P(1 + .08/12)

Since Mr. Credit is receiving a sequence of payments, or an annuity, of $1,000 per month, its future value is given by the
annuity formula we learned in Section 6.3. This value is
240
$1000 [(1 + .08/12 ) − 1]
A =
.08/12

The only way Mr. Cash will agree to the amount he receives is if these two future values are equal. So we set them equal
and solve for the unknown.
240
$1000[(1+.08/12 ) −1]
240
P(1 + .08/12 ) =
.08/12

P(4.9268) = $1000(589.02041)

P(4.9268) = $589020.41

P = $119, 554.36

The present value of an ordinary annuity of $1,000 each month for 20 years at 8% is $119,554.36
The reader should also note that if Mr. Cash takes his lump sum of P = $119,554.36 and invests it at 8% compounded
monthly, he will have an accumulated value of A =$589,020.41 in 20 years.

INSTALLMENT PAYMENT ON A LOAN

If a person or business needs to buy or pay for something now (a car, a home, college tuition, equipment for a business) but
does not have the money, they can borrow the money as a loan.
They receive the loan amount called the principal (or present value) now and are obligated to pay back the principal in the
future over a stated amount of time (term of the loan), as regular periodic payments with interest.
Example 6.4.2 examines how to calculate the loan payment, using reasoning similar to Example 6.4.1.

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 Example 6.4.2
Find the monthly payment for a car costing $15,000 if the loan is amortized over five years at an interest rate of 9%.
Solution
Again, consider the following scenario:
Two people, Mr. Cash and Mr. Credit, go to buy the same car that costs $15,000. Mr. Cash pays cash and drives away, but
Mr. Credit wants to make monthly payments for five years.
Our job is to determine the amount of the monthly payment. We reason as follows:
If Mr. Credit pays m dollars per month, then the m dollar payment deposited each month at 9% for 5 years should yield
the same amount as the $15,000 lump sum deposited for 5 years.
Again, we are comparing the future values for both Mr. Cash and Mr. Credit, and we would like them to be the same.
Since Mr. Cash is paying a lump sum of $15,000, its future value is given by the lump sum formula, and it is
60
$15, 000(1 + .09/12)

Mr. Credit wishes to make a sequence of payments, or an annuity, of x dollars per month, and its future value is given by
the annuity formula, and this value is
60
x [(1 + .09/12 ) − 1]

.09/12

We set the two future amounts equal and solve for the unknown.
60
m[(1+.09/12 ) −1]
60
$15, 000(1 + .09/12 ) =
.09/12

$15, 000(1.5657) = m(75.4241)

$311.38 = m

Therefore, the monthly payment needed to repay the loan is $311.38 for five years.

SECTION 6.4 SUMMARY

We summarize the method used in examples 6.4.1 and 6.4.2 below.

The Equation to Find the Present Value of an Annuity,

Or the Installment Payment for a Loan
If a payment of m dollars is made in an account n times a year at an interest r, then the present value P of the annuity
after t years is
nt
m [(1 + r/n ) − 1]
nt
P(1 + r/n ) = (6.4.1)
r/n

When used for a loan, the amount P is the loan amount, and m is the periodic payment needed to repay the loan over a
term of t years with n payments per year.
If the present value or loan amount is needed, solve for P
If the periodic payment is needed, solve for m.

Note that the formula assumes that the payment period is the same as the compounding period. If these are not the same,
then this formula does not apply.

Finally, we note that many finite mathematics and finance books develop the formula for the present value of an annuity
differently.

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Instead of using the formula:
nt
m [(1 + r/n) − 1]
nt
P(1 + r/n) = (6.4.2)
r/n

and solving for the present value P after substituting the numerical values for the other items in the formula, many textbooks
first solve the formula for P in order to develop a new formula for the present value. Then the numerical information can be
substituted into the present value formula and evaluated, without needing to solve algebraically for P.

Alternate Method to find Present Value of an Annuity

nt
m[(1+r/n) −1]
Starting with formula 6.4.2: P(1 + r/n) nt
=
r/n

Divide both sides by (1 + r/n) nt

to isolate P, and simplify
nt
m [(1 + r/n) − 1] 1
P = ⋅
nt
r/n (1 + r/n)

−nt
m [1 − (1 + r/n) ]
P = (6.4.3)
r/n

The authors of this book believe that it is easier to use formula 6.4.2 at the top of this page and solve for P or m as needed. In
this approach there are fewer formulas to understand, and many students find it easier to learn. In the problems the rest of this
chapter, when a problem requires the calculation of the present value of an annuity, formula 6.4.2 will be used.
However, some people prefer formula 6.4.3, and it is mathematically correct to use that method. Note that if you choose to use
formula 6.4.3, you need to be careful with the negative exponents in the formula. And if you needed to find the periodic
payment, you would still need to do the algebra to solve for the value of m.
It would be a good idea to check with your instructor to see if he or she has a preference. In fact, you can usually tell your
instructor’s preference by noting how he or she explains and demonstrates these types of problems in class.

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6.4.1: Present Value of an Annuity and Installment Payment (Exercises)
SECTION 6.4 PROBLEM SET: PRESENT VALUE OF AN ANNUITY AND INSTALLMENT
PAYMENT
For the following problems, show all work.

1) Shawn has won a lottery paying him $10,000 per month for the next
2) Sonya bought a car for $15,000. Find the monthly payment if the
20 years. He'd rather have the whole amount in one lump sum today. If
loan is to be amortized over 5 years at a rate of 10.1%.
the current interest rate is 8.2%, how much money can he hope to get?

3) You determine that you can afford $250 per month for a car. What is
4) Compute the monthly payment for a house loan of $200,000 to be
the maximum amount you can afford to pay for a car if the interest rate
financed over 30 years at an interest rate of 10%.
is 9% and you want to repay the loan in 5 years?

6) Friendly Auto offers Jennifer a car for $2000 down and $300 per
5) If the $200,000 loan in the previous problem is financed over 15
month for 5 years. Jason wants to buy the same car but wants to pay
years rather than 30 years at 10%, what will the monthly payment be?
cash. How much must Jason pay if the interest rate is 9.4%?
7) The Gomez family bought a house for $450,000. They paid 20% 8) Mr. and Mrs. Wong purchased their new house for $350,000. They
down and amortized the rest at 5.2% over a 30-year period. Find their made a down payment of 15%, and amortized the rest over 30 years. If
monthly payment. the interest rate is 5.8%, find their monthly payment.

9) A firm needs a piece of machinery that has a useful life of 5 years. It 10) Jackie wants to buy a $19,000 car, but she can afford to pay only
has an option of leasing it for $10,000 a year, or buying it for $40,000 $300 per month for 5 years. If the interest rate is 6%, how much does
cash. If the interest rate is 10%, which choice is better? she need to put down?

12) Glen borrowed $10,000 for his college education at 8%

11) Vijay's tuition at college for the next year is $32,000. His parents
compounded quarterly. Three years later, after graduating and finding a
have decided to pay the tuition by making nine monthly payments. If
job, he decided to start paying off his loan. If the loan is amortized over
the interest rate is 6%, what is the monthly payment?
five years at 9%, find his monthly payment for the next five years.

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6.5: Miscellaneous Application Problems
Learning Objectives
In this section, you will learn to apply to concepts for compound interest for savings and annuities to:
1. Find the outstanding balance, partway through the term of a loan, of the future payments still remaining on the loan.
2. Perform financial calculations in situations involving several stages of savings and/or annuities.
3. Find the fair market value of a bond.
4. Construct an amortization schedule for a loan.

We have already developed the tools to solve most finance problems. Now we use these tools to solve some application
problems.

OUTSTANDING BALANCE ON A LOAN

One of the most common problems deals with finding the balance owed at a given time during the life of a loan. Suppose a
person buys a house and amortizes the loan over 30 years, but decides to sell the house a few years later. At the time of the
sale, he is obligated to pay off his lender, therefore, he needs to know the balance he owes. Since most long term loans are paid
off prematurely, we are often confronted with this problem.
To find the outstanding balance of a loan at a specified time, we need to find the present value P of all future payments that
have not yet been paid. In this case t does not represent the entire term of the loan. Instead:
t represents the time that still remains on the loan
nt represents the total number of future payments.

Example 6.5.1
Mr. Jackson bought his house in 1995, and financed the loan for 30 years at an interest rate of 7.8%. His monthly payment
was $1260. In 2015, Mr. Jackson decides to pay off the loan. Find the balance of the loan he still owes.
Solution
The reader should note that the original amount of the loan is not mentioned in the problem. That is because we don't
need to know that to find the balance.
The original loan was for 30 years. 20 years have past so there are years still remaining. 12(10) = 120 payments still
remain to be paid on this loan.
As for the bank or lender is concerned, Mr. Jackson is obligated to pay $1260 each month for 10 more years; he still owes
a total of 120 payments. But since Mr. Jackson wants to pay it all off now, we need to find the present value P at the time
of repayment of the remaining 10 years of payments of $1260 each month. Using the formula we get for the present value
of an annuity, we get
120
$1260 [(1 + .078/12 ) − 1)]
120
P(1 + .078/12) =
(.078/12)

P(2.17597) = $227957.85

P = $104761.48

to find the outstanding balance of a loan

If a loan has a payment of m dollars made n times a year at an interest r, then the outstanding value of the loan when
there are t years still remaining on the loan is given by P:
nt
m [(1 + r/n ) − 1|
nt
P(1 + r/n ) = (6.5.1)
r/n

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 IMPORTANT: Note that t is not the original term of the loan but instead t is the amount of time still remaining in the
future nt is the number of payments still remaining in the future
If the problem does not directly state the amount of time still remaining in the term of the loan, then it must be calculated
BEFORE using the above formula as t = original term of loan - time already passed since the start date of the loan.

Note that there are other methods to find the outstanding balance on a loan, but the method illustrated above is the easiest.
One alternate method would be to use an amortization schedule, as illustrated toward the end of this section. An amortization
schedule shows the payments, interest, and outstanding balance step by step after each loan payment. An amortization
schedule is tedious to calculate by hand but can be easily constructed using spreadsheet software.
Another way to find the outstanding balance, that we will not illustrate here, is to find the difference A - B, where
A = the original loan amount (principal) accumulated to the date on which we want to find the outstanding balance (using
compound interest formula)
B = the accumulated value of all payments that have been made as of the date on which we want to find the outstanding
balance (using formula for accumulated value of an annuity)
In this case we would need do a compound interest calculation and an annuity calculation; we then need to find the difference
between them. Three calculations are needed instead of one.
It is a mathematically acceptable way to calculate the outstanding balance. However, it is very strongly recommended that
students use the method explained in box above and illustrated in Example 6.5.1, as it is much simpler.

PROBLEMS INVOLVING MULTIPLE STAGES OF SAVINGS AND/OR ANNUITIES

Consider the following situations:
a. Suppose a baby, Aisha, is born and her grandparents invest $5000 in a college fund. The money remains invested for 18
years until Aisha enters college, and then is withdrawn in equal semiannual payments over the 4 years that Aisha expects to
need to finish college. The college investment fund earns 5% interest compounded semiannually. How much money can
Aisha withdraw from the account every six months while she is in college?
b. Aisha graduates college and starts a job. She saves $1000 each quarter, depositing it into a retirement savings account.
Suppose that Aisha saves for 30 years and then retires. At retirement she wants to withdraw money as an annuity that pays
a constant amount every month for 25 years. During the savings phase, the retirement account earns 6% interest
compounded quarterly. During the annuity payout phase, the retirement account earns 4.8% interest compounded monthly.
Calculate Aisha’s monthly retirement annuity payout.
These problems appear complicated. But each can be broken down into two smaller problems involving compound interest on
savings or involving annuities. Often the problem involves a savings period followed by an annuity period. ; the accumulated
value from first part of the problem may become a present value in the second part. Read each problem carefully to determine
what is needed.

Example 6.5.2
Suppose a baby, Aisha, is born and her grandparents invest $8000 in a college fund. The money remains invested for 18
years until Aisha enters college, and then is withdrawn in equal semiannual payments over the 4 years that Aisha expects
to attend college. The college investment fund earns 5% interest compounded semiannually. How much money can Aisha
withdraw from the account every six months while she is in college?
Solution
Part 1: Accumulation of College Savings: Find the accumulated value at the end of 18 years of a sum of $8000 invested
at 5% compounded semiannually.
(2×18) 36
A = $8000(1 + .05/2 ) = $8000(1.025 ) = $8000(2.432535)

A = $19460.28

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 Part 2: Seminannual annuity payout from savings to put toward college expenses. Find the amount of the semiannual
payout for four years using the accumulated savings from part 1 of the problem with an interest rate of 5% compounded
semiannually.
A = $19460.28 in Part 1 is the accumulated value at the end of the savings period. This becomes the present value
P =$19460.28 when calculating the semiannual payments in Part 2.

2×4
05
m[(1+ ) −1]
2
.05 2×4
$19460.28 (1 + ) =
2 (.05/2)

$23710.46 = m(8.73612)

m = $2714.07

Aisha will be able to withdraw $2714.07 semiannually for her college expenses.

Example 6.5.3
Aisha graduates college and starts a job. She saves $1000 each quarter, depositing it into a retirement savings account.
Suppose that Aisha saves for 30 years and then retires. At retirement she wants to withdraw money as an annuity that
pays a constant amount every month for 25 years. During the savings phase, the retirement account earns 6% interest
compounded quarterly. During the annuity payout phase, the retirement account earns 4.8% interest compounded
monthly. Calculate Aisha’s monthly retirement annuity payout.
Solution
Part 1: Accumulation of Retirement Savings: Find the accumulated value at the end of 30 years of $1000 deposited at
the end of each quarter into a retirement savings account earning 6% interest compounded quarterly.
4×30
$1000[(1+.06/4 ) −1]

A =
(.06/4)

A = $331288.19

Part 2: Monthly retirement annuity payout: Find the amount of the monthly annuity payments for 25 years using the
accumulated savings from part 1 of the problem with an interest rate of 4.8% compounded monthly.
A = $331288.19 in Part 1 is the accumulated value at the end of the savings period. This amount will become the present
value P =$331288.19 when calculating the monthly retirement annuity payments in Part 2.
12×25
m[(1+.048/12 ) −1]
12×25
$331288.19(1 + .048/12 ) =
(.048/12)

$1097285.90 = m(578.04483)

m = $1898.27

Aisha will have a monthly retirement annuity income of $1898.27 when she retires.

FAIR MARKET VALUE OF A BOND

Whenever a business, and for that matter the U. S. government, needs to raise money it does it by selling bonds. A bond is a
certificate of promise that states the terms of the agreement. Usually the business sells bonds for the face amount of $1,000
each for a stated term, a period of time ending at a specified maturity date.
The person who buys the bond, the bondholder, pays $1,000 to buy the bond.
The bondholder is promised two things: First that he will get his $1,000 back at the maturity date, and second that he will
receive a fixed amount of interest every six months.
As the market interest rates change, the price of the bond starts to fluctuate. The bonds are bought and sold in the market at
their fair market value.

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The interest rate a bond pays is fixed, but if the market interest rate goes up, the value of the bond drops since the money
invested in the bond could earn more if invested elsewhere. When the value of the bond drops, we say it is trading at a
discount.
On the other hand, if the market interest rate drops, the value of the bond goes up since the bond now yields a higher return
than the market interest rate, and we say it is trading at a premium.

Example 6.5.4
The Orange Computer Company needs to raise money to expand. It issues a 10-year $1,000 bond that pays $30 every six
months. If the current market interest rate is 7%, what is the fair market value of the bond?
Solution
The bond certificate promises us two things - An amount of $1,000 to be paid in 10 years, and a semi-annual payment of
$30 for ten years. Therefore, to find the fair market value of the bond, we need to find the present value of the lump sum
of $1,000 we are to receive in 10 years, as well as, the present value of the $30 semi-annual payments for the 10 years.
We will let P1 = the present value of the face amount of $1,000
20
P1 (1 + .07/2 ) = $1, 000

Since the interest is paid twice a year, the interest is compounded twice a year and nt = 2(10)=20

P1 (1.9898) = $1, 000

P1 = $502.56

We will let P2 = the present value of the $30 semi-annual payments is

20
$30 [(1 + .07/2 ) − 1]
20
P2 (1 + .07/2 ) =
(.07/2)

P2 (1.9898) = 848.39

P2 = $426.37

The present value of the lump-sum $1,000 = $502.56

The present value of the $30 semi-annual payments = $426.37
The fair market value of the bond is P = P1+ P2 = $502.56 + $426.37 = $928.93

Note that because the market interest rate of 7% is higher than the bond’s implied interest rate of 6% implied by the
semiannual payments, the bond is selling at a discount; its fair market value of $928.93 is less than its face value of
$1000.

Example 6.5.5
A state issues a 15 year $1000 bond that pays $25 every six months. If the current market interest rate is 4%, what is the
fair market value of the bond?
Solution
The bond certificate promises two things - an amount of $1,000 to be paid in 15 years, and semi-annual payments of $25
for 15 years. To find the fair market value of the bond, we find the present value of the $1,000 face value we are to
receive in 15 years and add it to the present value of the $25 semi-annual payments for the 15 years. In this example,
nt = 2(15) = 30 .

We will let P1 = the present value of the lump-sum $1,000

30
P1 (1 + .04/2 ) = $1, 000

P1 = $552.07

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 We will let P2 = the present value of the $25 semi-annual payments is
30
$25[(1+.04/2 ) −1]
30
P2 (1 + .04/2 ) =
(.04/2)

P2 (1.18114) = $1014.20

P2 = $559.90

The present value of the lump-sum $1,000 = $552.07

The present value of the $30 semi-annual payments = $559.90
Therefore, the fair market value of the bond is

P = P1 + P2 = $552.07 + $559.90 = $1111.97

Because the market interest rate of 4% is lower than the interest rate of 5% implied by the semiannual payments, the bond
is selling at a premium: the fair market value of $1,111.97 is more than the face value of $1,000.

To summarize:

to find the Fair Market Value of a Bond

Find the present value of the face amount A that is payable at the maturity date:
nt
A = P1 (1 + r/n ) ;  solve to find P1 (6.5.2)

Find the present value of the semiannually payments of $m over the term of the bond:
nt
m [(1 + r/n ) − 1]
nt
P2 (1 + r/n ) = ;  solve to find P2 (6.5.3)
r/n

The fair market value (or present value or price or current value) of the bond is the sum of the present values calculated
above:
P = P1 + P2 (6.5.4)

AMORTIZATION SCHEDULE FOR A LOAN

An amortization schedule is a table that lists all payments on a loan, splits them into the portion devoted to interest and the
portion that is applied to repay principal, and calculates the outstanding balance on the loan after each payment is made.

Example 6.5.6
An amount of $500 is borrowed for 6 months at a rate of 12%. Make an amortization schedule showing the monthly
payment, the monthly interest on the outstanding balance, the portion of the payment contributing toward reducing the
debt, and the outstanding balance.
Solution
The reader can verify that the monthly payment is $86.27.
The first month, the outstanding balance is $500, and therefore, the monthly interest on the outstanding balance is
(outstanding balance)(the monthly interest rate) = ($500)(.12/12) = $5
This means, the first month, out of the $86.27 payment, $5 goes toward the interest and the remaining $81.27 toward the
balance leaving a new balance of $500 - $81.27 = $418.73.
Similarly, the second month, the outstanding balance is $418.73, and the monthly interest on the outstanding balance is
($418.73)(.12/12) = $4.19. Again, out of the $86.27 payment, $4.19 goes toward the interest and the remaining $82.08
toward the balance leaving a new balance of $418.73 - $82.08 = $336.65. The process continues in the table below.

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 Payment # Payment Interest Debt Payment Balance

1 $86.27 $5 $81.27 $418.73

2 $86.27 $4.19 $82.08 $336.65

3 $86.27 $3.37 $82.90 $253.75
4 $86.27 $2.54 $83.73 $170.02
5 $86.27 $1.70 $84.57 $85.45
6 $86.27 $0.85 $85.42 $0.03

Note that the last balance of 3 cents is due to error in rounding off.

An amortization schedule is usually lengthy and tedious to calculate by hand. For example, an amortization schedule for a 30
year mortgage loan with monthly payments would have (12)(30)=360 rows of calculations in the amortization schedule table.
A car loan with 5 years of monthly payments would have 12(5)=60 rows of calculations in the amortization schedule table.
However it would be straightforward to use a spreadsheet application on a computer to do these repetitive calculations by
inputting and copying formulas for the calculations into the cells.
Most of the other applications in this section's problem set are reasonably straightforward, and can be solved by taking a little
extra care in interpreting them. And remember, there is often more than one way to solve a problem.

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6.5.1: Miscellaneous Application Problems (Exercises)
SECTION 6.5 PROBLEM SET: MISCELLANEOUS APPLICATION PROBLEMS
For problems 1 - 4, assume a $200,000 house loan is amortized over 30 years at an interest rate of 5.4%.

1) Find the monthly payment. 2) Find the balance owed after 20 years.

4) Find the monthly payment if the original loan were amortized over
3) Find the balance of the loan after 100 payments.
15 years.

6.5 PROBLEM SET: MISCELLANEOUS APPLICATION PROBLEMS

6) An amount of $2000 is borrowed for a year at a rate of 7%. Make an
5) Mr. Patel wants to pay off his car loan. The monthly payment for his
amortization schedule showing the monthly payment, the monthly
car is $365, and he has 16 payments left. If the loan was financed at
interest on the outstanding balance, the portion of the payment going
6.5%, how much does he owe?
toward reducing the debt, and the balance.
7) Fourteen months after Dan bought his new car he lost his job. His car
was repossessed by his lender after he made only 14 monthly payments 8) You have a choice of either receiving $5,000 at the end of each year
of $376 each. If the loan was financed over a 4-year period at an interest for the next 5 years or receiving $3000 per year for the next 10 years. If
rate of 6.3%, how much did the car cost the lender? In other words, how the current interest rate is 9%, which is better?
much did Dan still owe on the car?

10) Assume Mr. Smith has reached retirement and has $250,000 in an
9) Mr. Smith is planning to retire in 25 years and would like to have
account which is earning 6.5%. He would now like to make equal
$250,000 then. What monthly payment made at the end of each month
monthly withdrawals for the next 15 years to completely deplete this
to an account that pays 6.5% will achieve his objective?
account. Find the withdrawal payment.
12) Assume Mrs. Garcia has reached retirement and has accumulated
11) Mrs. Garcia is planning to retire in 20 years. She starts to save for
the amount found in question 13 in a retirement savings account. She
retirement by depositing $2000 each quarter into a retirement
would now like to make equal monthly withdrawals for the next 15
investment account that earns 6% interest compounded quarterly. Find
years to completely deplete this account. Find the withdrawal payment.
the accumulated value of her retirement savings at the end of 20 years.
Assume the account now pays 5.4% compounded monthly.

SECTION 6.5 PROBLEM SET: MISCELLANEOUS APPLICATION PROBLEMS

13) A ten-year $1,000 bond pays $35 every six months. If the current 14) Find the fair market value of the ten-year $1,000 bond that pays $35
interest rate is 8.2%, find the fair market value of the bond. every six months, if the current interest rate has dropped to 6%.
Hint: You must do the following. Hint: You must do the following.
a) Find the present value of $1000. a) Find the present value of $1000.
b) Find the present value of the $35 payments. b) Find the present value of the $35 payments.
c) The fair market value of the bond = a + b c) The fair market value of the bond = a + b

15) A twenty-year $1,000 bond pays $30 every six months. If the
current interest rate is 4.2%, find the fair market value of the bond.
Hint: You must do the following. 16) Find the fair market value of the twenty-year $1,000 bond that pays
a) Find the present value of $1000. $30 every six months, if the current interest rate has increased to 7.5%.
b) Find the present value of the $30 payments.
c) The fair market value of the bond = a + b

SECTION 6.5 PROBLEM SET: MISCELLANEOUS APPLICATION PROBLEMS

17) Mr. and Mrs. Nguyen deposit $10,000 into a college investment 18) Mr. Singh is 38 and plans to retire at age 65. He opens a retirement
account when their new baby grandchild is born. The account earns savings account.
6.25% interest compounded quarterly. a) Mr. Singh wants to save enough money to
a) When their grandchild reaches the age of 18, what is the accumulated accumulate $500,000 by the time he retires.
value of the college investment account? The retirement investment account pays 7% interest compounded
b) The Nguyen’s grandchild has just reached the age of 18 and started monthly. How much does he need to deposit each month to achieve this
college. If she is to withdraw the money in the college savings account goal?

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n equal monthly payments over the next 4 years, how much money will b) Mr. Singh has now reached at 65 and retires.
be withdrawn each month? How much money can he withdraw each month for 25 years if the
retirement investment account now pays 5.2% interest, compounded
monthly?

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6.6: Classification of Finance Problems
Learning Objectives
In this section, you will review the concepts of chapter 6 to:
1. Re-examine the types of financial problems and classify them.
2. Re-examine the vocabulary words used in describing financial calculations

We'd like to remind the reader that the hardest part of solving a finance problem is determining the category it falls into. So in
this section, we will emphasize the classification of problems rather than finding the actual solution.
We suggest that the student read each problem carefully and look for the word or words that may give clues to the kind of
problem that is presented. For instance, students often fail to distinguish a lump-sum problem from an annuity. Since the
payments are made each period, an annuity problem contains words such as each, every, per etc.. One should also be aware
that in the case of a lump-sum, only a single deposit is made, while in an annuity numerous deposits are made at equal spaced
time intervals. To help interpret the vocabulary used in the problems, we include a glossary at the end of this section.
Students often confuse the present value with the future value. For example, if a car costs $15,000, then this is its present
value. Surely, you cannot convince the dealer to accept $15,000 in some future time, say, in five years. Recall how we found
the installment payment for that car. We assumed that two people, Mr. Cash and Mr. Credit, were buying two identical cars
both costing $15, 000 each. To settle the argument that both people should pay exactly the same amount, we put Mr. Cash's
cash of $15,000 in the bank as a lump-sum and Mr. Credit's monthly payments of x dollars each as an annuity. Then we make
sure that the future values of these two accounts are equal. As you remember, at an interest rate of 9%
the future value of Mr. Cash's lump-sum was $15, 000(1 + .09/12) , and 60

60
x[(1+.09/12 ) −1]

the future value of Mr. Credit's annuity was .09/12

.

To solve the problem, we set the two expressions equal and solve for m.
The present value of an annuity is found in exactly the same way. For example, suppose Mr. Credit is told that he can buy a
particular car for $311.38 a month for five years, and Mr. Cash wants to know how much he needs to pay. We are finding the
present value of the annuity of $311.38 per month, which is the same as finding the price of the car. This time our unknown
quantity is the price of the car. Now suppose the price of the car is P, then
the future value of Mr. Cash's lump-sum is P(1 + .09/12) , and 60

60
$311.38[(1+.09/12 ) −1]

the future value of Mr. Credit's annuity is .09/12

.

Setting them equal we get,

60
$311.38[(1+.09/12 ) −1]
60
P (1 + .09/12 ) =
.09/12

P (1.5657) = ($311.38)(75.4241)

P (1.5657) = $23, 485.57

P = $15, 000.04

CLASSIFICATION OF PROBLEMS AND EQUATIONS FOR SolutionS

We now list six problems that form a basis for all finance problems.
Further, we classify these problems and give an equation for the solution.

Example 6.6.1
If $2,000 is invested at 7% compounded quarterly, what will the final amount be in 5 years?

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 Classification: Future (accumulated) Value of a Lump-sum or FV of a lump-sum.
Equation:
20
FV = A = $2000(1 + .07/4) (6.6.1)

Example 6.6.2
How much should be invested at 8% compounded yearly, for the final amount to be $5,000 in five years?
Classification: Present Value of a Lump-sum or PV of a lump-sum.
Equation:
5
PV(1 + .08 ) = $5, 000 (6.6.2)

Example 6.6.3
If $200 is invested each month at 8.5% compounded monthly, what will the final amount be in 4 years?
Classification: Future (accumulated) Value of an Annuity or FV of an annuity.
Equation:
48
$200 [(1 + .085/12 ) − 1]
FV = A = (6.6.3)
.085/12

Example 6.6.4
How much should be invested each month at 9% for it to accumulate to $8,000 in three years?
Classification: Sinking Fund Payment
Equation:
36
m [(1 + .09/12 ) − 1]
= $8, 000 (6.6.4)
.09/12

Example 6.6.5
Keith has won a lottery paying him $2,000 per month for the next 10 years. He'd rather have the entire sum now. If
the interest rate is 7.6%, how much should he receive?
Classification: Present Value of an Annuity or PV of an annuity.
Equation:
120
$2000 [(1 + .076/12 ) − 1]
120
PV(1 + .076/12 ) = (6.6.5)
.076/12

Example 6.6.6
Mr. A has just donated $25,000 to his alma mater. Mr. B would like to donate an equivalent amount, but would like
to pay by monthly payments over a five year period. If the interest rate is 8.2%, determine the size of the monthly
payment?
Classification: Installment Payment.
Equation:

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 60
m [(1 + .082/12 ) − 1]
60
= $25, 000(1 + .082/12 ) (6.6.6)
.082/12

GLOSSARY: VOCABULARY AND SYMBOLS USED IN FINANCIAL CALCULATIONS

As we’ve seen in these examples, it’s important to read the problems carefully to correctly identify the situation. It is essential
to understand to vocabulary for financial problems. Many of the vocabulary words used are listed in the glossary below for
easy reference.
Time period for a loan or investment. In this book t is represented in years and should be converted into
t Term
years when it is stated in months or other units.
Principal is the amount of money borrowed in a loan.
P Principal
If a sum of money is invested for a period of time, the sum invested at the start is the Principal.
P Present Value Value of money at the beginning of the time period.

Accumulated Value
A Value of money at the end of the time period
Future Value

In loans involving simple interest, a discount occurs if the interest is deducted from the loan amount at the
D Discount
beginning of the loan period, rather than being repaid at the end of the loan period.
The amount of a constant periodic payment that occurs at regular intervals during the time period under
m Periodic Payment consideration (examples: periodic payments made to repay a loan, regular periodic payments into a bank
account as savings, regular periodic payment to a retired person as an annuity,)
In this book, when we consider periodic payments, we will always have the compounding period be the
same as the payment period.
Number of payment periods
In general the compounding and payment periods do not have to be the same, but the calculations are more
n and compounding periods
complicated if they are different. If the periods differ, formulas for the calculations can be found in finance
per year
textbooks or various online resources. Calculations can easily be done using technology such as an online
financial calculator, or financial functions in a spreadsheet, or a financial pocket calculator.
nt = (number of periods per year)× (number of years)
nt gives the total number of payment and compounding periods
In some situations we will calculate nt as the multiplication shown above. In other situations the problem
nt Number of periods
may state nt, such as a problem describing an investment of 18 months duration compounded monthly. In
this example: nt = 18 months and n = 12; then t = 1.5 years but t is not stated explicitly in the problem.
The TI-84+ calculators built in TVM solver uses N = nt.
The stated annual interest rate. This is stated as a percent but converted to decimal form when using
Annual interest rate financial calculation formulas.
r
Nominal rate If a bank account pays 3% interest compounded quarterly, then 3% is the nominal rate, and it is included in
the financial formulas as r = 0.03
Interest rate per If a bank account pays 3% interest compounded quarterly, then r/n = 0.03/4 = 0. 075, corresponding to a
r/n
compounding period rate of 0.75% per quarter. Some Finite Math books use the symbol i to represent r/n

Effective Rate
Effective Annual Interest
The effective rate is the interest rate compounded annually that would give the same interest rate as the
Rate
compounded rate stated for the investment.
rEF F APY Annual Percentage
The effective rate provides a uniform way for investors or borrowers to compare different interest rates
Yield
with different compounding periods.
APR Annual Percentage
Rate

Money paid by a borrower for the use of money borrowed as a loan.

Money earned over time when depositing money into a savings account, certificate of deposit, or money
I Interest
market account. When a person deposits money in a bank account, the person depositing the funds is
essentially temporarily lending the money to the bank and the bank pays interest to the depositor.
Sinking Fund A fund set up by making payments over a period of time into a savings or investment account in order to

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 save to fund a future purchase. Businesses use sinking funds to save for a future purchase of equipment at
the end of the savings period by making periodic installment payments into a sinking fund.
An annuity is a stream of periodic payments. In this book it refers to a stream of constant periodic
payments made at the end of each compounding period for a specific amount of time.
In common use the term annuity generally refers to a constant stream of periodic payments received by a
person as retirement income, such as from a pension.
Annuity
Annuity payments in general may be made at the end of each payment period (ordinary annuity) or at the
start of each period (annuity due).
The compounding periods and payment periods do not need to be equal, but in this textbook we only
consider situations when these periods are equal.
A single sum of money paid or deposited at one time, rather than being spread out over time.
An example is lottery winnings if the recipient chooses to receive a single “lump sum” one-time payment,
Lump Sum instead of periodic payments over a period of time or as.
Use of the word lump sum indicates that this is a one time transaction and is not a stream of periodic
payments.
An amount of money that is borrowed with the understanding that the borrower needs to repay the loan to
the lender in the future by the end of a period of time that is called the term of the loan.
The repayment is most often accomplished through periodic payments until the loan has been completely
Loan repaid over the term of the loan.
However there are also loans that can be repaid as a single sum at the end of the term of the loan, with
interest paid either periodically over the term or in a lump sum at the end of the loan or as a discount at the
start of the loan.

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6.6.1: Classification of Finance Problems (Exercises)
SECTION 6.6 PROBLEM SET: CLASSIFICATION OF FINANCE PROBLEMS
Let the letters A, B, C, D, E and F be represented as follows:
A = F V  of a lump-sum  C = F V  of an annuity  E =  Installment payment 

B = P V  of a lump-sum  D =  sinking fund payment  F = P V  of an annuity 

Classify each by writing the appropriate letter in the box, and write an equation for solution.
1) What monthly deposits made to an account paying 9% will grow to $10,000 in 4 years?
2) An amount of $4000 is invested at 6% compounded daily. What will the final amount be in 5 years?
3) David has won a lottery paying him $10,000 per month for the next 20 years. He'd rather have the whole amount in one
lump sum now. If the current interest rate is 7%, how much money can he hope to get?
4) Each month Linda deposits $250 in an account that pays 9%. How much money will she have in 4 years?
5) Find the monthly payment for a $15,000 car if the loan is amortized over 4 years at a rate of 10%.
6) What lump-sum deposited in an account paying 7% compounded daily will grow to $10,000 in 5 years?
7) What amount of quarterly payments will amount to $250,000 in 5 years at a rate of 8%?
8) The Chang family bought their house 25 years ago. They had their loan financed for 30 years at an interest rate of 11%
resulting in a payment of $1350 a month. Find the balance of the loan.
A 10-year $1000 bond pays $35 every six months. If the current interest rate is 8%, in order to find the fair market value of the
bond, we need to find the following.
9) The present value of $1000.
10) The present value of the $35 per six month payments.
SECTION 6.6 PROBLEM SET: CLASSIFICATION OF FINANCE PROBLEMS
A = F V  of a lump-sum  C = F V  of an annuity  E =  Installment payment 

B = P V  of a lump-sum  D =  sinking fund payment  F = P V  of an annuity 

11) What lump-sum deposit made today is equal to 33 monthly deposits of $500 if the interest rate is 8%?
12) What monthly deposits made to an account paying 10% will accumulated to $10,000 in six years?
13) A department store charges a finance charge of 1.5% per month on the outstanding balance.
If Ned charged $400 three months ago and has not paid his bill, how much does he owe?
14) What will the value of $300 monthly deposits be in 10 years if the account pays 12% compounded monthly?
15) What lump-sum deposited at 6% compounded daily will grow to $2000 in three years?
16) A company buys an apartment complex for $5,000,000 and amortizes the loan over 10 years.
What is the yearly payment if the interest rate is 14%?
17) In 2002, a house in Rock City cost $300,000. Real estate in Rock City has been increasing in value at the annual rate of
5.3%.. Find the price of that house in 2016.
18) You determine that you can afford to pay $400 per month for a car. What is the maximum price you can pay for a car if the
interest rate is 11% and you want to repay the loan in 4 years?
19) A business needs $350,000 in 5 years. How much lump-sum should be put aside in an account that pays 9% so that five
years from now the company will have $350,000?
20) A person wishes to have $500,000 in a pension fund 20 years from now. How much should he deposit each month in an
account paying 9% compounded monthly?

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6.7: Chapter Review
SECTION 6.7 PROBLEM SET: CHAPTER REVIEW
1. Manuel borrows $800 for 6 months at 18% simple interest. How much does he owe at the end of 6 months?
2. The population of a city is 65,000 and expects to grow at a rate of 2.3% per year for the next 10 years. What will the
population of this city be in 10 years?
3. The Gill family is buying a $250,000 house with a 10% down payment. If the loan is financed over a 30 year period at an
interest rate of 4.8%, what is the monthly payment?
4. Find the monthly payment for the house in the above problem if the loan was amortized over 15 years.
5. You look at your budget and decide that you can afford $250 per month for a car. What is the maximum amount you can
afford to pay for the car if the interest rate is 8.6% and you want to finance the loan over 5 years?
6. Mr. Nakahama bought his house in the year 1998. He had his loan financed for 30 years at an interest rate of 6.2% resulting
in a monthly payment of $1500. In 2015, 17 years later, he paid off the balance of the loan. How much did he pay?
7. Lisa buys a car for $16,500, and receives $2400 for her old car as a trade-in value. Find the monthly payment for the
balance if the loan is amortized over 5 years at 8.5%.
8. A car is sold for $3000 cash down and $400 per month for the next 4 years. Find the cash value of the car today if the
money is worth 8.3% compounded monthly.
9. An amount of $2300 is borrowed for 7 months at a simple interest rate of 16%. Find the discount and the proceeds.
10. Marcus has won a lottery paying him $5000 per month for the next 25 years. He'd rather have the whole amount in one
lump sum today. If the current interest rate is 7.3%, how much money can he hope to get?
11. In the year 2000, an average house in Star City cost $250,000. If the average annual inflation rate for the past years has
been about 4.7%, what was the price of that house in 2015?
12. Find the 'fair market' value of a ten-year $1000 bond which pays $30 every six months if the current interest rate is 7%.
What if the current interest rate is 5%?
13. A Visa credit card company has a finance charge of 1.5% per month (18% per year) on the outstanding balance. John owed
$3200 and has been delinquent for 5 months. How much total does he owe, now?
14. You want to purchase a home for $200,000 with a 30-year mortgage at 9.24% interest. Find
a. the monthly payment
b. the balance owed after 20 years.
15. When Jose bought his car, he amortized his loan over 6 years at a rate of 9.2%, and his monthly payment came out to be
$350 per month. He has been making these payments for the past 40 months and now wants to pay off the remaining
balance. How much does he owe?
16. A lottery pays $10,000 per month for the next 20 years. If the interest rate is 7.8%, find both its present and future values.
17. A corporation estimates it will need $300,000 in 8 years to replace its existing machinery. How much should it deposit each
quarter in a sinking fund earning 8.4% compounded quarterly to meet this obligation?
18. Our national debt in 1992 was about $4 trillion. If the annual interest rate was 7% then, what was the daily interest on the
national debt?
19. A business must raise $400,000 in 10 years. What should be the size of the owners' monthly payments to a sinking fund
paying 6.5% compounded monthly?
20. The population of a city of 80,000 is growing at a rate of 3.2% per year. What will the population be at the end of 10 years?
21. A sum of $5000 is deposited in a bank today. What will the final amount be in 20 months if the bank pays 9% and the
interest is compounded monthly?
22. A manufacturing company buys a machine for $500 cash and $50 per month for the next 3 years. Find the cash value of the
machine today if the money is worth 6.2% compounded monthly.
23. The United States paid about 4 cents an acre for the Louisiana Purchase in 1803. Suppose the value of this property grew at
a rate of 5.5% annually. What would an acre be worth in the year 2000?
24. What amount should be invested per month at 9.1% compounded monthly so that it will become $5000 in 17 months?
25. A machine costs $8000 and has a life of 5 years. It can be leased for $160 per month for 5 years with a cash down payment
of $750. The current interest rate is 8.3%. Is it cheaper to lease or to buy?

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26. If inflation holds at 5.2% per year for 5 years, what will be the cost in 5 years of a car that costs $16,000 today? How much
will you need to deposit each quarter in a sinking fund earning 8.7% per year to purchase the new car in 5 years?
27. City Bank pays an interest rate of 6%, while Western Bank pays 5.8% compounded continuously. Which one is a better
deal?
28. Ali has inherited $20,000 and is planning to invest this amount at 7.9% interest. At the same time he wishes to make equal
monthly withdrawals to use up the entire sum in 5 years. How much can he withdraw each month?
29. Jason has a choice of receiving $300 per month for the next 5 years or $500 per month for the next 3 years. Which one is
worth more if the current interest rate is 7.7%?
30. If a bank pays 6.8% compounded continuously, how long will it take to double your money?
31. A mutual fund claims a growth rate of 8.3% per year. If $500 per month is invested, what will the final amount be in 15
years?
32. Mr. Vasquez has been given two choices for his compensation. He can have $20,000 cash plus $500 per month for 10
years, or he can receive $12,000 cash plus $1000 per month for 5 years. If the interest rate is 8%, which is the better offer?
33. How much should Mr. Shackley deposit in a trust account so that his daughter can withdraw $400 per month for 4 years if
the interest rate is 8%?
34. Mr. Albers borrowed $425,000 from the bank for his new house at an interest rate of 4.7%. He will make equal monthly
payments for the next 30 years. How much money will he end up paying the bank over the life of the loan, and how much
is the interest?
35. Mr. Tong puts away $500 per month for 10 years in an account that earns 9.3%. After 10 years, he decides to withdraw
$1,000 per month. If the interest rate stays the same, how long will it take Mr. Tong to deplete the account?
36. An amount of $5000 is borrowed for 15 months at an interest rate of 9%. Find the monthly payment and construct an
amortization schedule showing the monthly payment, the monthly interest on the outstanding balance, the amount of
payment contributing towards debt, and the outstanding debt.

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