A single payment or lump sum is a one-time financial transaction involving a specified amount of money paid at once. This type of payment contrasts with installment payments, which are made over time.
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The present value (PV) of a lump sum can be calculated using the formula PV = FV / (1 + r)^n, where FV is future value, r is the interest rate, and n is the number of periods.
The future value (FV) of a lump sum can be found using FV = PV * (1 + r)^n.
The concept of time value of money illustrates that the value of money today differs from its value in the future due to earning potential.
Interest rates and the number of compounding periods significantly affect the present and future values of a lump sum.
When solving for either present or future values, it’s crucial to match the interest rate period with the timeframe for accurate calculations.
Review Questions
What formula would you use to calculate the present value of a single payment?
How does an increase in interest rate affect the present value of a lump sum?
In what way does the concept of time value of money impact decision-making regarding receiving or paying a lump sum now versus later?
Related terms
Present Value (PV): The current worth of an amount that will be received or paid in the future, discounted at a specific interest rate.
Future Value (FV): The amount an investment will grow to over time when compounded at a particular interest rate.
Time Value of Money: A financial principle stating that money available now is worth more than the same amount in the future due to its potential earning capacity.