Contemporary Mathematics FOR BUSINESS AND CONSUMERS

Brechner
CHAPTER

12
Annuities

PowerPoint Presentation by Heather Mann

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a publicly accessible website, in whole or in part.

PERFORMANCE OBJECTIVES
Section I Future Value of an Annuity: Ordinary and Annuity
Due
12-1: Calculating the future value of an ordinary annuity
by using tables
12-2: Calculating the future value of an annuity due by
using tables
12-3: (Optional) Calculating the future value of an
ordinary annuity and an annuity due by formula
Section II
Present Value of an Annuity: Ordinary and
Annuity Due
12-4: Calculating the present value of an ordinary
annuity by using tables
12-5: Calculating the present value of an annuity due by
using tables
12-6: (Optional) Calculating the present value of an
ordinary annuity and an annuity due by formula
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a publicly accessible website, in whole or in part.

to

12

PERFORMANCE OBJECTIVES

continue
d

Section III Sinking Funds and Amortization

12-7: Calculating the amount of a
sinking fund payment by table
12-8: Calculating the amount of an
amortization payment by table
12-9: (Optional) Calculating sinking
fund payments by formula
12-10: (Optional) Calculating
amortization payments by formula

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3
a publicly accessible website, in whole or in part.

Types of Annuities
annuity

Payment or receipt of equal amounts of money per

period for a specified amount of time.

simple
annuity

Annuity in which the number of compounding periods

per year coincides with the number of annuity
payments per year.

complex
annuity

Annuity in which the annuity payments and

compounding periods do not coincide.

annuities
certain

Annuities that have a specified number of time

periods.

contingent
annuities

Annuities based on an uncertain time period, such as

the life of a person.

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EXHIBIT 12-1
Timeline Illustrating Present and Future Value of an Annuity

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Annuity Payment Types

ordinary annuity
Annuity that is paid or received at the end of each
time period.

annuity due
Annuity that is paid or received at the beginning of
each time period.

future value of an annuity

The total amount of the annuity payments and the
accumulated interest on those payments.
Also known as the amount of an annuity.

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Manually Calculating the Future Value of an

Ordinary Annuity Example
A bank is paying 8% interest compounded annually.
Find the future value of $1,000 deposited at the end of
every year for 3 years.
Beginning of period 1
First annuity payment
End of period 1
Begin period 2 + second payment
I = PRT = 1,000 .08 1
End of period 2
Begin period 3 + third payment
I = PRT = 2,080 .08 1
Future value of the ordinary annuity

=
=
=
=
=
=
=
=
=

0
+1,000.00
1,000.00
2,000.00
+
80.00
2,080.00
3,080.00
+ 166.40
3,246.40

2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to
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a publicly accessible website, in whole or in part.

STEP
S

FOR CALCULATING FUTURE VALUE (AMOUNT) OF

AN ORDINARY ANNUITY

STEP 1 Calculate the interest rate per period for the annuity
(nominal rate periods per year).
STEP 2 Determine the number of periods of the annuity
(years periods per year).
STEP 3 From Table 12-1, locate the ordinary annuity table
factor at the intersection of the rate-per-period
column and the number-of-periods row.
STEP 4 Calculate the future value of the ordinary annuity.
Future value
= Ordinary annuity Annuity
(ordinary annuity)
table factor
payment
2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to
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a publicly accessible website, in whole or in part.

TABLE 12-1
Future Value (Amount) of an Ordinary Annuity of $1

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Calculating the Future Value of an

Ordinary Annuity Example
A bank is paying 8% interest compounded annually.
Find the future value of $1,000 deposited at the end of
every year for 3 years.
Periods = 3 1 = 3
Interest rate per period = 8% 1 = 8%
Future value = Table factor Annuity payment
Future value = 3.24640 1,000 = $3,246.40

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a publicly accessible website, in whole or in part.

10

Manually Calculating the Future Value of

an Annuity Due
A bank is paying 6% interest compounded annually.
Calculate the future value of $1,000, deposited at the
beginning of each year for three years.
Beginning of period 1 =
I = PRT = 1,000 .06 1 =
End of period 1
Beginning of period 2 (includes 2nd payment)
I = PRT = 2,060 .06 1 = 123.60)
End of period 2
Beginning of period 3 (includes 3rd payment)
I = PRT = 3,183.60 .06 1
End of period 3

=
=
=
=
=
=
=

1,000.00
+
60.00
1,060.00
2,060.00
+ 123.60
2,183.60
3,183.60
+ 191.02
3,374.62

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a publicly accessible website, in whole or in part.

11

STEP
S

FOR CALCULATING FUTURE VALUE (AMOUNT) OF

AN ANNUITY DUE

STEP 1 Calculate the number of periods of the annuity (years

periods per year) and add one period to the total.
STEP 2 Calculate the interest rate per period (nominal rate
periods per year).
STEP 3 From Table 12-1, locate the table factor at the intersection
of the rate-per-period column and the number-of-periods
row.
STEP 4 Subtract 1.00000 from the ordinary annuity table factor to
get the annuity due table factor.
STEP 5 Calculate the future value of the annuity due.
Future value (annuity due) = Annuity due table factor Annuity payment
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a publicly accessible website, in whole or in part.

12

Calculating the Future Value (Amount) of an

Annuity Due Example
A bank is paying 6% interest compounded annually.
Calculate the future value of $1,000, deposited at the
beginning of each year for 3 years.
Interest rate per period = 6% 1 = 6%
Periods: 3 1 = 3 + 1 = 4
Table factor = 4.37462 1.0000 = 3.37462
Future value = 3.37462 1,000 = 3,374.62/F = P*(1 + r)n

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13

STEP
S

FOR CALCULATING PRESENT VALUE OF AN

ORDINARY ANNUITY

STEP 1 Calculate the interest rate per period for the annuity
(nominal rate periods per year).
STEP 2 Determine the number of periods of the annuity
(years periods per year).
STEP 3 From Table 12-2, locate the present value table
factor at the intersection of the rate-per-period
column and the number-of-periods row.
STEP 4 Calculate the present value of the ordinary annuity.
Present value
= Ordinary annuity Annuity
(ordinary annuity)
table factor
payment
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a publicly accessible website, in whole or in part.

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TABLE 12-2
Present Value (Amount) of an Ordinary Annuity of $1

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15

Calculating the Present Value of an

Annuity Due
A theater wants $20,000 available at the end of each 6month theater season for renovations and new stage
and lighting equipment. How much must be deposited
now, at 8% compounded semiannually, to yield this
annuity payment for the next 6 years?
Interest per period = 8% 2 = 4%
Periods = 6 2 = 12
Present value = 9.38507 20,000 = $187,701.40

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a publicly accessible website, in whole or in part.

16

STEP
S

FOR CALCULATING PRESENT VALUE OF AN

ANNUITY DUE

STEP 1 Calculate the number of periods of the annuity (years

periods per year) and subtract one period from the total.
STEP 2 Calculate the interest rate per period (nominal rate
periods per year).
STEP 3 From Table 12-2, locate the table factor at the intersection
of the rate-per-period column and the number-of-periods
row.
STEP 4 Add 1.00000 from the ordinary annuity table factor to get
the annuity due table factor.
STEP 5 Calculate the future value of the annuity due.
Present value (annuity due) = Annuity due table factor Annuity payment
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17

Calculating the Present Value of an

Annuity Due Example
Based on sales and revenue expense forecasts, it is
estimated that $10,000 must be sent to the IRS for
income tax purposes at the beginning of each 3month period for the next 3 years. How much must be
deposited now, at 6% compounded quarterly, to yield
the annuity payment needed?
Interest per period = 6% 4 = 1.5%
Periods = 3 4 = 12 1 = 11
Table factor = 10.07112 + 1.0000 = 11.07112
Present value = 11.07112 10,000 = $110,711.20

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a publicly accessible website, in whole or in part.

18

STEP
S

FOR CALCULATING THE AMOUNT OF A SINKING

FUND PAYMENT

STEP 1 Using the appropriate rate per period and number of

periods of the sinking fund, find the future value
table factor from Table 12-1.
STEP 2 Calculate the amount of the sinking fund payment.
Sinking fund payment = Future value of the sinking fund
Future value table factor

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19

Calculating the Amount of a Sinking

Fund Example
Steve wants to accumulate $8,000 in 5 years. If his
bank is paying 12% interest compounded quarterly,
how much must he deposit(payment) at the end of
period to reach his desired goal?
Interest per period: 12% 4 = 3%
Periods = 5 4 = 20
Future value of the sinking fund
Sinking fund payment =
Future value table factor

Sinking fund payment =

8,000
26.87037

= $297.73

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a publicly accessible website, in whole or in part.

20

STEP
S

FOR CALCULATING THE AMOUNT OF AN

AMORTIZATION PAYMENT

STEP 1 Using the appropriate rate per period and number of

periods of the amortization, find the present value
table factor from Table 12-2.
STEP 2 Calculate the amount of the amortization payment.

Amortization payment =

Original amount of obligation

Present value table factor

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21

Calculating the Amount of an

Amortization Payment Example
A fisherman purchases a new fishing boat for
$130,000. He made a $20,000 down payment and
financed the balance at his bank for 7 years. What
amortization payments are required every 3 months,
at 16% interest, to pay off the boat loan?
Interest per period: 16% 4 = 4%
Periods = 7 4 = 28
Original amount of obligation
Sinking fund payment =
Present value table factor

Sinking fund payment =

110,000
16.66306

= $6,601.43

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22

CHAPTER REVIEW PROBLEM 1

Jill has saved $200,000 and she wants to amortize

(liquidate) that amount in a retirement fund so that she
will receive equal annual payments over the next 25
years. At the end of the 25 years, there will be no
funds left in the account. If the fund earns 12%
interest, how much will Jill receive each year?

Interestrateperperiod:12%
Numberofperiods:25
Tablefactor:7.84314
200, 000
Payment=
$25, 499.99
7.84314
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CHAPTER REVIEW PROBLEM 2

Calculate the amount of the periodic payment needed

to amount to $50,000 in 8 years compounded semiannually at 10% interest.
Interest per period: 10% 2 = 5%
Periods = 8 2 = 16
Future value of the sinking fund
Sinking fund payment =
Future value table factor

Sinking fund payment =

50,000 = $2,113.50
23.65749

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CHAPTER REVIEW PROBLEM 3

A bank is paying 6% interest compounded monthly.

Find the future value of $100 deposited at the end of
each month be worth after 2 years.
Periods = 2 12 = 24
Interest rate per period = 6% 12 = .5%
Future value = 25.43196 100 = $2,543.20

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a publicly accessible website, in whole or in part.

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