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2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Key Terms
Interest: an amount paid or earned for the use of money. Simple interest: interest earned when a loan or investment is repaid in a lump sum.
The interest formula shows how interest, rate, and time are related and gives us a way of finding one of these values if the other three values are known.
I=PxRxT
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Time must be expressed in the same unit of time as the rate. (i.e. one year)
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Interest = P x R x T
Interest = 1,200 x 0.08 x 1
Interest = $96
The interest on the loan is $96.
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Find the interest on a 2-year loan of $4,000 at a 6% rate. $480 Find the interest earned on a 3-year investment of $5,000 at 4.5% interest.
$675
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Maturity value: the total amount of money due by the end of a loan period; the amount of the loan and interest. If the principal and the interest are known, add them. MV = principal + PRT MV = P(1+RT)
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Marcus Logan can purchase furniture on a 2-year simple interest loan at 9% interest per year. What is the maturity value for a $2,500 loan?
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Terry Williams is going to borrow $4,000 at 7.5% interest. What is the maturity value of the loan after three years? $4,900 Jim Sherman will invest $3,000 at 8% for 5 years. What is the maturity value of the investment? $4,200
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Write the number of months as the numerator of a fraction. Write 12 as the denominator of the fraction. Reduce the fraction to lowest terms if using the fractional equivalent. Divide the numerator by the denominator to get the decimal equivalent of the fraction.
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Convert 9 months and 15 months, respectively, to years, expressing both as fractions and decimals. 9/12 = = 0.75
9 months = or 0.75 of a year 15/12 = 1 3/12 = 1 = 1.25 15 months = 1 or 1.25 of a year.
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
To save money, Stan Wright invested $2,500 for 42 months at 4 % simple interest. How much interest did he earn? 42 months = 42/12 = 3.5 I=PxRxT I = $2,500 x 0.045 x 3.5
I = $393.75
Stan will earn $393.75
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Akiko is saving a little extra money to pay for her car insurance next year. If she invests $1,000 for 18 months at 4%, how much interest can she earn? $60
Habib is going to borrow $2,000 for 42 months at 7% . What will the amount of interest owed be? $490
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
11.1.4 Find the Principal, Rate or Time Using the Simple Interest Formula
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
P = I / RT Judy paid $108 in interest on a loan that she had for 6 months. The interest rate was 12%. How much was the principal? Substitute the known values and solve.
R = I / PT Sam wants to borrow $1,500 for 15 months and will have to pay $225 in interest. What is the rate he is being charged? Substitute the known values and solve. R = 225/ $1,500 x 1.25
R = .12 or 12%
The rate Sam will pay is 12%.
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
T = I / RP
Shelby borrowed $10,000 at 8% and paid $1,600 in interest. What was the length of the loan? Substitute the known values and solve. T = $1,600/0.08 x $10,000
T=2
The length of the loan was two years.
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Ordinary time: time that is based on counting 30 days in each month. Exact time: time that is based on counting the exact number of days in a time period.
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Examples
The ordinary time from July 12 to September 12 is 60 days. To find the exact time from July 12 to September 12, add the following: Days in July (31 - 12 =) 19 31 Days in August
Days in September
+12
62 days
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Find the exact time of a loan using the sequential numbers table. (Table 11-1 in the text)
If the beginning and due dates of the loan fall within the same year, subtract the beginning dates sequential number from the due dates sequential number. Ex.: From May 15 to October 15 288-135 = 153 days is the exact time
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Find the exact time from May 15 on Year 1 to March 15 in Year 2. 365 135 = 230
A loan made on September 5 is due July 5 of the following year. Find: a) ordinary time b) exact time in a non-leap year c) exact time in a leap year.
Ordinary interest: a rate per day that assumes 360 days per year. Exact interest: a rate per day that assumes 365 days per year. Bankers rule: calculating interest on a loan based on ordinary interest and exact time which yields a slightly higher amount of interest.
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
For ordinary interest rate per day, divide the annual interest rate by 360. Ordinary interest rate per day = Interest rate per year 360
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
For exact interest rate per day, divide the annual interest rate by 365. Exact interest rate per day = Interest rate per year 365
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
A loan of $500 at 7% annual interest rate. The loan was made on March 15 and due on May 15. (Principal = $500) I = P x R x T Length of loan (ordinary time) = 60 days
Rate = 0.07/360 (ordinary interest) Interest = $500 x 0.07/360 x 60 Interest = $5.83
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Find the ordinary interest using exact time for the previous loan
A loan of $500 at 7% annual interest rate. The loan was made on March 15 and due on May 15. (Principal = $500) I = P x R x T Length of loan (exact time) = 61 days
Rate = 0.07/360 (ordinary interest) Interest = $500 x 0.07/360 x 61 Interest = $5.93
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Find the exact interest using exact time for the previous loan
A loan of $500 at 7% annual interest rate. The loan was made on March 15 and due on May 15. (Principal = $500) I = P x R x T Length of loan (exact time) = 61 days Rate = 0.07/365 (exact interest)
Tony borrows $5,000 on a 10%, 90 day note. On the 30th day, Tony pays $1,500 on the note. If ordinary interest is applied, what is Tonys adjusted principal after the partial payment, and adjusted balance due at maturity? $5,000(.1)(30/360) = $41.67 $1,500 - $41.67 = $1,458.33 $5,000 - $1,458.33 = $3,541.67 (Adj. Principal) $3,541.67(.1)(60/360) = $59.03 (Interest) $3,541.67 + $59.03 = $3,600.70 (Adj. Balance)
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Find the bank discount and proceeds for a simple discount note. Find the true effective interest rate of a simple discount note.
Find the third-party discount and proceeds for a third-party discount note.
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
11.3.1 Find the Bank Discount and Proceeds for a Simple Discount Note
For the bank discount, use: Bank discount = face value x disc. rate x time [I = P x R x T] For the proceeds, use: Proceeds = face value bank discount A=P-I
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
A promissory note
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
11.3.2 Find the True of Effective Interest Rate of a Simple Discount Note To find the true or effective interest rate of a simple discount note: 1. Find the bank discount (interest). I = PRT 2. Find the proceeds: proceeds = principal bank discount. 3. Find the effective interest rate: R = I/PT using the proceeds as the principal
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
What is the effective interest rate of a $5,000 simple discount note, at an ordinary bank discount rate of 12%, for 90 days? I = PRT; I = $5,000(.12)(90/360) I = $150 (Bank discount) Proceeds = $5,000 - $150 = $4,850 R = I/PT; R = $150/$4,850(90/360) R = .1237113402 R or the effective interest rate = 12.4%
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
11.3.3 Find the Third Party Discount and Proceeds for a Third Party Discount Note
For the bank discount, use: Third party discount = maturity value of the original note x discount rate x discount period. For the proceeds, use: Proceeds = maturity value of original note third-party discount A=P-I
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Mihoc Trailer made a note of $10,000 with Darcy Mihoc, owner, at 9% simple interest based on exact interest and exact time. The note is made on August 12 and due November 10. Since Mihoc Trailer needs cash, the note is taken to a third party on September 5. The third-party agrees to accept the note with a 13% annual discount using the bankers rule. Find the proceeds of the note.
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
To find the proceeds, we find the maturity value of the original note, then the third-party discount. Exact time is 90 days (314-224) Exact interest rate is .09/365 MV = P(1+ RT)
Exact time of the discount period is 66 days. (314 - 248) period between Sept. 5 and Nov. 10. Ordinary discount rate is 0.13/ 360. Third party discount = I = PRT Third party discount = $10,221.92 (0.13/360)(66) Third party discount = $243.62 Proceeds = A = P I Proceeds = $10,221.92 - $243.62 = $9,978.30
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved