Present Value Of An Annuity

AAA

DEFINITION of 'Present Value Of An Annuity'

The current value of a set of cash flows in the future, given a specified rate of return or discount rate. The future cash flows of the annuity are discounted at the discount rate, and the higher the discount rate, the lower the present value of the annuity.

Present Value Of An Annuity


C = Cash flow per period
i = Interest rate
n = Number of payments

This calculates the present value of an ordinary annuity. To calculate the present value of an annuity due, multiply the result by (1+i). (The payments start at time zero instead of one period into the future.)

INVESTOPEDIA EXPLAINS 'Present Value Of An Annuity'

The essence of this concept is that receiving money now is worth more than receiving the same amount in the future. By the same logic, receiving $5,000 today is worth more than getting $1,000 per year for five years. This is because if you got the lump sum today, you could invest it and receive an additional return.

Using this example, and assuming a discount rate of 6%, the present value of an annuity that pays $1,000 per year for five years is $4,212 (1,000*[1-(1+0.06)-5/0.06]= 4,212). This means that if you could get a return on your invested funds of 6% per year, receiving $4,212 today would have the same value to you as receiving $1,000 per year for five years.

RELATED TERMS
  1. Discount Rate

    The interest rate charged to commercial banks and other depository ...
  2. Future Value - FV

    The value of an asset or cash at a specified date in the future ...
  3. Time Value of Money - TVM

    The idea that money available at the present time is worth more ...
  4. Present Value - PV

    The current worth of a future sum of money or stream of cash ...
  5. Present Value Interest Factor - ...

    A factor that can be used to simplify the calculation for finding ...
  6. Annuity

    A financial product sold by financial institutions that is designed ...
Related Articles
  1. Watch Your Back In The Annuity Game
    Home & Auto

    Watch Your Back In The Annuity Game

  2. Calculating The Present And Future Value ...
    Investing Basics

    Calculating The Present And Future Value ...

  3. Understanding The Time Value Of Money
    Investing Basics

    Understanding The Time Value Of Money

  4. Explaining Types Of Fixed Annuities
    Bonds & Fixed Income

    Explaining Types Of Fixed Annuities

comments powered by Disqus
Hot Definitions
  1. Accounts Payable - AP

    An accounting entry that represents an entity's obligation to pay off a short-term debt to its creditors. The accounts payable ...
  2. Ratio Analysis

    Quantitative analysis of information contained in a company’s financial statements. Ratio analysis is based on line items ...
  3. Days Payable Outstanding - DPO

    A company's average payable period. Calculated as: ending accounts payable / (cost of sales/number of days).
  4. Net Sales

    The amount of sales generated by a company after the deduction of returns, allowances for damaged or missing goods and any ...
  5. Over The Counter

    A security traded in some context other than on a formal exchange such as the NYSE, TSX, AMEX, etc. The phrase "over-the-counter" ...
  6. Earnings Before Interest After Taxes - EBIAT

    A financial measure that is an indicator of a company's operating performance. EBIAT, which is equivalent to after-tax EBIT ...
Trading Center