Chapter 6 - Annuity

CHAPTER 6 : ANNUITY
1. ANNUITY
2. FUTURE VALUE OF ANNUITY
3. PRESENT VALUE OF ANNUITY
4. AMORTIZATION LOAN
ANNUITY
 Contract between you and a company in which you make a lump-
sum payment or series of payments and, in return, receive regular
disbursements.
ANNUITY
 Annuity method usually will be used in
i. Bonds – Bonds one of long-term investment where the borrower will
pay series of payment to the lender.
ii. Insurance – Insurance company will use annuity method to calculate the
customer monthly premium.
iii. Project/machine – Not all financial institutions willing to wired a loan

for expensive project or machine.
ANNUITY
FUTURE VALUE OF PRESENT VALUE OF

ANNUITY ANNUITY
(FV annuity) (PV annuity)
FUTURE VALUE OF ANNUITY
(FV annuity)
Ordinary annuity annuity due
FV FV =
= P
annuity annuity
FV OF ANNUITY
Example 1
Calculate the future value of RM 600 if it was deposit at the end of every year for the
next 5 years with interest 6%.
FV OF ANNUITY
Example 1
Calculate the future value of RM 600 if it was deposit at the end of every year for the next 5 years with
interest 6%
FV
FV = 600 X [[(1+0.06)^5 – 1] / 0.06] =
annuity
FV = 600 [(1.338-1) / 0.06]
FV = 600 [(0.338)/0.06]
FV = 600 (5.633333)
FV = RM 3380, Interest = 3380 – (600x5) = RM 380

FV OF ANNUITY
Example 2
Calculate the future value of RM 600 if it was deposit at the end of every month for the next 5 years with
interest 6%.
FV OF ANNUITY
Example 2
Calculate the future value of RM 600 if it was deposit at the end of every month for the next 5 years with
interest 6%.
P=RM 600, I = 0.06/12 = 0.005, n = 5 x 12 = 60
FV = 600 [(1+0.005)^60 – 1 )/0.005]
FV
FV = 600 [(1.349 – 1)/0.005] =
annuity
FV = 600 [0.349/0.005]
FV = 600 (69.8) = RM 41,880

FV OF ANNUITY
Example 3
Calculate the future value of RM 600 if it was deposit at the beginning of every
year for the next 5 years with interest 6%
FV = 600[((1.06)^5-1)/0.06] (1.06)
FV = 600 [0.338/0.06](1.06)
FV = 600(5.63)(1.06) FV annuity = P
FV = 600 (5.97)
FV = RM 3582
FV OF ANNUITY
Example 3
Calculate the future value of RM 600 if it was deposit at the beginning of every quarterly for the
next 5 years with interest 6%
P = 600, I = 0.06 / 4= 0.015, n = 5 x 4 = 20
FV = 600 [((1.015)^20 - 1 / 0.015)] (1.015)
FV= 600 [1.35 -1 / 0.015 ] (1.015)
FV annuity = P
FV = 600 [0.35/0.015 )(1.015)
FV = 600 (23.33) (1.015)
FV = 600 (23.68) = RM 14,208
PRESENT VALUE OF ANNUITY.
 Present value of an annuity is the current value of future payments from an
annuity, given a specified rate of return, or discount rate.
 Present value of an annuity refers to how much money would be needed
today, to fund a series of future annuity payments.
PV of
Annuity = P
EXAMPLE 4
Imagine if you just won a contest and the prize is whether you are to receive the
RM 25,000 in the form of five RM 5,000 payments at the end each of the next
five years or the organizer pay you a total of RM 20,000 today. Which option
you will choose.
PV of
Annuity = P
EXAMPLE 4
Imagine if you just won a contest and the prize is whether you are to receive the RM 25,000 in
the form of five RM 5,000 payments at the end each of the next five years or the organizer pay
you a total of RM 20,000 today. Assume the interest rate is 6%, which option you will choose.
P = RM 25,000, r = 0.06, n= 5
PV annuity = 5,000 x [1 – 1/ ((1.06)^5)] / 0.06
PV annuity = 5,000 x [1 – 0.7472] / 0.06
PV annuity = 5,000 x 0.2528 / 0.06
PV annuity = 5,000 x 4.213
PV annuity = RM 21,065 PV of
P
Annuity =
EXAMPLE 5
Mr. Naeem has won a scholarship which pays him RM 5,000 per year for 3 years beginning a
year from today. He wants to know the present value of the scholarship using a discount rate of
7%.
PV of
P
Annuity =
EXAMPLE 5
Mr. Naeem has won a scholarship which pays him RM 5,000 per year for 3 years beginning a
year from today. He wants to know the present value of the scholarship using a discount rate of
7%.
P = 5,000, r = 7% n = 3 years
PV annuity = 5,000 x [1 – 1/ ((1.07)^3)] / 0.07
PV annuity = 5,000 x [1 – 1/1.23)] / 0.07
PV annuity = 5,000 x [1- 0.81] / 0.07
PV annuity = 5,000 x 0.19 / 0.07
PV annuity = 5,000 x 2.71 = RM 13,550
EXAMPLE 6
Find the lump sum that must be set aside today to make end-of-month
payments of RM 1000 for 2 years, assuming 12% compounded monthly.
FV
=
annuity
1
PV of Annuity = P X
1- [ (1+r) n ]
r
EXAMPLE 6
Solution
Fva = 1000[((1+0.01)^24-1)/0.01
FV = RM 26,973.46
FV
=
annuity
EXAMPLE 6
Solution
Solution P = RM 1000, r = 0.12/12 = 0.01, n = 2 x 12 =
24
Fva = 1000[((1+0.01)^24-1)/0.01
PV = 1000 x [(1-1/(1+0.01)^24)/0.01]
FV = RM 26,973.46
PV = 1000 x [(1-1/1.270)/0.01]
1 PV = 1000 x [(1-0.7874)/0.01]
PV of Annuity = P X
1- [ (1+r) n ] PV = 1000 x [0.2126/0.01]
PV = 1000 x 21.26
r PV = RM 21,260

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CHAPTER 6 : ANNUITY

iii. Project/machine – Not all financial institutions willing to wired a loan

FUTURE VALUE OF PRESENT VALUE OF

Ordinary annuity annuity due

FV = RM 3380, Interest = 3380 – (600x5) = RM 380

P=RM 600, I = 0.06/12 = 0.005, n = 5 x 12 = 60

FV = 600 [(1+0.005)^60 – 1 )/0.005]

FV = 600 (69.8) = RM 41,880

 Present value of an annuity is the current value of future payments from an

annuity, given a specified rate of return, or discount rate.

 Present value of an annuity refers to how much money would be needed

today, to fund a series of future annuity payments.

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