Calculation of annuities is an important topic of basic finance and requires simple calculation to find the present or future value of any amount. one can value an annuity with two ways. It is therefore a limited count of cash flows, the slow or first way is to separately value each cash flow and add their present values. The quick or second way used the following formula to value the annuities.
General formula for annuity that pays C$ in a year for every t year is:
This expression is generally known as the annuity factor for t year, and it shows present value of time t year annuity of $1 per year. Second way to write its annuity value is:
Present value of t year annuity = payment multiply by annuity factor
For example Bobby travelers offer an “easy payment” schedule of $8000 a year at the end of each year for the next 3 years. Lets first calculate the annuity with the slow way, interest rate is 10%. Present value of 3 payments is
The above figure shows present value of each cash flow calculated and summed. But the same calculation could be done with the help of Annuity formula which is much quicker. The calculation with the help of annuity formula is given below:
Use a spreadsheet or calculator to workout annuity factor or use a set of annuity tables for most appropriate answer.