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Exam 16: The Concept of Present Value

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Question 1

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James just received an $8,000 inheritance check from the estate of his deceased rich uncle. James wants to set aside enough money to pay for a trip in five years. If the trip is expected to cost $5,000, how much of the $8,000 must James deposit now if the rate of return is 12% per year in order to have the $5,000 in five years?

A) $2,535
B) $2,835
C) $2,000
D) $5,000

E) B) and D)
F) None of the above

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Question 2

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Harry has just inherited $300,000. Harry has decided to quit his job and go to school full time for the next five years by living off this inheritance. Harry will invest the $300,000 in a money market account that has an 8% interest rate. If Harry's goal is to use up the entire inheritance, approximately what amount can he withdraw from the money market account each year for the next five years? Assume that his first withdrawal will be one year from the day that he sets up the account.

A) $64,800
B) $74,400
C) $75,131
D) $84,000

E) B) and D)
F) B) and C)

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Question 3

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How much would you have to invest today in the bank at an interest rate of 5% to have an annuity of $1,400 per year for 5 years, with nothing left in the bank at the end of the 5 years? Select the amount below that is closest to your answer.

Schaad Corporation has entered into an 8 year lease for a piece of equipment. The annual payment under the lease will be $2,500, with payments being made at the beginning of each year. If the discount rate is 14%, the present value of the lease payments is closest to:

Latting Corporation has entered into a 7 year lease for a building it will use as a warehouse. The annual payment under the lease will be $4,781. The first payment will be at the end of the current year and all subsequent payments will be made at year-ends. If the discount rate is 6%, the present value of the lease payments is closest to:

The present value of an amount to be received in five years is greater than the present value of the same amount to be received in ten years.

You have deposited $15,584 in a special account that has a guaranteed rate of return. If you withdraw $3,700 at the end of each year for 5 years, you will completely exhaust the balance in the account. The guaranteed rate of return is closest to:

Assume you can invest money at a 14% rate of return. How much money must be invested now in order to be able to withdraw $5,000 from this investment at the end of each year for 8 years, the first withdrawal occurring one year from now?

You have deposited $16,700 in a special account that has a guaranteed rate of return of 11% per year. If you are willing to completely exhaust the account, what is the maximum amount that you could withdraw at the end of each of the next 6 years? Select the amount below that is closest to your answer.

The present value of a given amount increases as the number of years over which it is to be discounted decreases.

Computing the present value of future dollars is known as:

The present value of a cash flow will never be less than the future dollar amount of the cash flow.

The higher the discount rate, the lower the present value of a given future cash flow.