Answer to Question #140283 in Finance for tom

Question

Jamie is thinking of retiring. His retirement plan will pay him either $1,500,000
immediately on retirement or $2,100,000 five years after the date of his
retirement.
(a) Which option should Jamie choose if the interest rate is 0% per year?
(b) Which option should Jamie choose if the interest rate is 10% per year?

Answer 1

Present value= $\frac {FV}{(1+r)^n}$

With interest rate of 0%, PV= will be 1,500,000 and 2,100,000 respectively.

For interest rate if 10% then PV=$\frac{1500000}{(1.10)^1}=1363636.36$

In 5years then: PV=$\frac{2100000}{(1.10)^5}= 1303934.78$

Therefore when the interests rate is 0% then it is better to take 2100000 since it has higher present value as compared to first option of 1,500,000.

For the interest rate of 10% then it is better to take 1,500,000 immediately as it has higher Present value than the second option.