NOTRE DAME OF DADIANGAS UNIVERSITY
Marist Avenue, General Santos City
Annuities
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Learning Objectives:
1. Recognize financial situations that can be
described as annuities.
2. Distinguish between present and future values
and between ordinary annuities and annuities
due.
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Definition 4.1.1
An annuity is any collection of equal payments made
at regular time intervals.
Some Examples of Annuities
• Monthly payments on a car loan, student loan, or
mortgage
• Your paycheck (if salaried or if hourly with hours
that are always the same) 3
Definition 4.1.1
Some Examples of Annuities
• Rent payments (until the rent changes)
• Pension or Social Security payments (as long as the
payments do not change)
• “Budget plan” utility bills (same amount paid each
month
• Regularly scheduled deposits to a savings program,
such as an Individual Retirement Account (an IRA)
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Definition 4.1.1
Some Examples That Are Not Annuities
• Monthly credit card payments (unless you pay the
same amount next month)
• Your paycheck (if hours vary, or if paid
commission)
• Daily receipts of a business
• “Pay as you go” utility bills
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Present and Future Values of Annuities
Definition 4.1.2
A sum of money to which an annuity’s payments and
interest accumulate in the end is called the annuity’s
future value.
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Present and Future Values of Annuities
Definition 4.1.2
A sum of money paid at the beginning of an annuity,
to which the annuity’s payment are accepted as
equivalent, is called the annuity’s present value. (The
present value is also sometimes called the amount of
the annuity.)
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Example 4.1.1 Distinguishing between present value
and future value of an annuity.
(a) Dylan deposits $25 from each paycheck into a 401(k)
savings plan at work. He will keep this up for the next 40
years, at which time he plans to retire, hopefully having
accumulated a large balance in his account. Since equal
payments are being made into the account at regular
intervals, this is an annuity. Is the value of the account
when Dylan retires a present value or future value?
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Example 4.1.1 Distinguishing between present value
and future value of an annuity.
Answer: The value of the account when Dylan
reaches retirement would be the future value.
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Example 4.1.1 Distinguishing between present value
and future value of an annuity.
(b) Thalissa borrowed $160,000 to buy a house. To
pay off this mortgage loan, she agreed to make
payments of $1,735.52 per month for 30 years. Since
her mortgage payments are all equal, and are made
at regular intervals, they constitute an annuity. Was
the amount she borrowed this annuity’s present
value or future value? 10
Example 4.1.1 Distinguishing between present value
and future value of an annuity.
Answer: The $160,000 was received at the start of
the annuity payments. Therefore it would be the
present value of the annuity.
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The Timing of Payments
Definitions 4.1.3
An ordinary annuity is an annuity whose payments
are made at the end of each time period.
An annuity due is an annuity whose payment are
made at the beginning of each time period.
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Example 4.1.2 Distinguishing between ordinary
annuities and annuities due.
(a) John took out a car loan on May 7. Payments will
be made monthly. The first payment is not due until
June 7 (the second will be due on July 7, etc.). Is this
an ordinary annuity or an annuity due?
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Example 4.1.2 Distinguishing between ordinary
annuities and annuities due.
Answer: Because his first payment is not made until
the end of the first month, the second month, and so
on, his car payments are an ordinary annuity.
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Example 4.1.2 Distinguishing between ordinary
annuities and annuities due.
(b) Jenna won a lottery jackpot which will pay her
$35,000 per year for the next 26 years. She does not
have to wait an entire year to get her first check-she
will be paid the first $35,000 right away. Her second
payment will come a year from now, at the start of
the second year, and so on. Is this an ordinary
annuity or an annuity due? 15
Example 4.1.2 Distinguishing between ordinary
annuities and annuities due.
Answer: Since the payments come at the start of
each year, her prize payout is an annuity due.
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Quiz #9 (11-13-2020)
I. Each of the following problems describes an
annuity. Determine whether the amount indicated is
the annuity’s present value or future value.
1.
2.
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Quiz #9 (11-13-2020)
3.
4.
5.
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Quiz #9 (11-13-2020)
II. For each of the following scenarios, determine
whether or not the payments describe an annuity. If
they do, determine whether they are an annuity due
or ordinary due. Also, determine whether the amount
indicated is a present value or a future value.
6.
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Quiz #9 (11-13-2020)
7.
8.
9.
10. 20
