Professional Documents
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Teaching Module
Introduction
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Universiti Malaysia Perlis 2013
2.2
Simple Interest
I Pr t
I = simple interest
P = principal
r = rate of simple interest
t = time in years
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Universiti Malaysia Perlis 2013
Exercise 1
RM5000 is invested for 6 years in a bank, earning a simple interest
rate of 5.7 % per annum. Find the simple interest earned
Answer
I=RM 1710
Example 2.2.2
RM10000 is invested for 4 years 9 month in a bank earning a
simple interest rate of 10% per annum. Find the simple amount at
the end of the investment period.
Solution
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Universiti Malaysia Perlis 2013
P RM 10000
r 0.1
t 4 years9month 4.75 years
A P 1 rt
Exercise 2
If Bank A offers a simple interest rate of 8 % per annum, Ahmad
invested RM 9000 for 4 years 6 months in a bank earning. Find the
future value obtain by Ahmad at the end of the investment period.
Anwer
A RM 12240
Example 3.2.3
Find the present value at 8% simple interest of a debt amount
RM3000 due in ten months.
Solution
A RM 3000
r 0.08
10
t years
12
P ??
P A 1 rt
10
3000 1 0.08
12
RM 2812.50
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Universiti Malaysia Perlis 2013
Example 3
Find the present value at 6% simple interest with total amount of
debt RM 40000 due in 15 years.
Anwer
P RM 21052.63
2.3
Compound Interest
Where i r m and n mt
A = amount or future value at the end of n periods
P = principal or present value
r = annual nominal rate
m = number of compounding periods per year
i = rate per compounding period
n = total number of compounding periods
t= time in year
Some important terms are best explained with the following
example.
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Universiti Malaysia Perlis 2013
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Universiti Malaysia Perlis 2013
Example 2.3.1
Find the accumulated amount after 3 years if RM1000 is invested at
8% per year compounded
a) Annually
b) Semi-annually
c) Quarterly
d) Monthly
e) Daily
Solution
a Annually
P 1000,r 0.08,m 1,n 3
A P 1 i
thus i
r
0.08
m
1000 1 0.08
1259.71
b semi annually
P 1000,r 0.08,m 2,n mt 2 3 =6
A P 1 i
thus i
r 0.08
0.04
m
2
1000 1 0.04
1265.32
c quarterly
P 1000,r 0.08,m 4,n mt 4 3 =12
A P 1 i
thus i
r 0.08
0.02
m
4
1000 1 0.02
12
1268.24
d monthly
A 1270.24
e daily
A 1271.22
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Universiti Malaysia Perlis 2013
Example 2.3.2
RM9000 is invested for 7 years 3 months. This investment is
offered 12% compounded monthly for the first 4 years and 12%
compounded quarterly for the rest of the period. Calculate the future
value of this investment.
Solution
amount of investment at the end of 4 years
P 9000
A 14510.03
amount of investment at the end of 7 years 3 month(3years3months)
r 0.12
P 14510.03,r 0.12,m 4 ,n mt 3.25 4 =13 thus i
m
4
A P 1 i
0.12
14510.03 1
21308.48
13
Example 3.3.3
What is the annual nominal rate compounded monthly that will
make RM1000 become RM2000 in five years?
Solution
P 1000, A 2000,r ??,m 12,n mt 5 12 =60
A P 1 i
r
A P 1
m
thus i
r
r
m 12
mt
r 13.94%
Example 4
Determine the annual nominal rate compounded quarterly that will
make RM10000 increase to RM25000 in 10 years?
Answer
r=9.27%
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r
reff 1 1
m
Where
reff = effective rate of interest
r = annual nominal interest rate
m = number of compounding periods per year
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Universiti Malaysia Perlis 2013
Example 2.3.4
Find the effective rate of interest corresponding to a nominal rate of
8% per year compounded
a) Annually
b) Semi-annually
c) Quarterly
d) Monthly
e) Daily
Solution
a Annually
r 0.08,m 1
r
reff 1 1
m
1 0.08 1
0.08
the effective rate is 8 % per year
b semi annually
r 0.08,m 2
m
reff 1 1
m
0.08
1
1
2
0.0816
the effective rate is 8.16% per year
c quarterly
The effective rate is 8.243% per year
d monthly
The effective rate is 8.3% per year
e daily
The effective rate is 8.328% per year
10
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r
reff 1 1
m
15.2%
1
1
1
15.2%
effective rate is 15.2% per year
r 14.5%,m 12
effective rate of bank B is
m
reff 1 1
m
BANK
A
B
Effective rate
15.2%
15.5%
11
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Where i r m and n mt
A P1 i
Where i r m and n mt
A = amount or future value at the end of n periods
P = principal or present value
r = annual nominal rate
m = number of compounding periods per year
i = rate per compounding period
n = total number of compounding periods
r 0.06
m 12
0.06
20000 1
12
16713
36
12
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thus i
r 0.1
m 4
0.1
49158.60 1
4
30000.07
20
b P 2288.69
c A 3434.70
13
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Example 2.3.9
Find the accumulated value of RM1000 for six months at 10%
compounded continuously.
Solution
P 1000, A ??,i 0.10,t
6
0.5 year
12
A Peit
1000e0.1 0.5
1051.27
Exercise 6
Find the accumulated value of RM8000 in 1 year 4 months at 8%
compounded continuously.
Answer
A=8900.51
Example 2.3.10 (HOMEWORK2)
Find the amount to be deposited now so as to accumulate RM1000
in eighteen months at 10% compounded continuously.
Solution
A Peit
P 860.71
14
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2.4
Annuities
Where i r m and n mt
15
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R 100,S ??,i
r 0.12
0.01,n mt 12 1 12
m 12
1 i n 1
S R
1 0.01 12 1
100
0.01
1268.25
r 0.12
31
0.01,n mt 12 31
m 12
12
1 i n 1
S R
1 0.01 31 1
100
0.01
3613.27
16
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24
0.09
A 3875.33 1
12
4636.50
amount at the end of 5years
r 0.09
R 100,S ??,i
,n mt 12 2 24
m 12
1 i n 1
S R
24
0.09
1
1
12
100
0.09
12
2618.85
hence, the amount in the account at the end of 5 years is
RM4636.50 RM2618.85 RM 7255.35
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Where
1 1 0.01 36
400
0.01
12043
R 400,i
18
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Example 2.4.6
As a savings program toward Alfian college education, his parents
decide to deposit RM100 at the end of every month into a bank
account paying interest at the rate of 6% per year compounded
monthly. If the saving program began when Alfian was 6 years old,
how much money would have accumulated by the time he turn 18?
Answer
P= RM 10247.47
19
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2.4.3 Amortization
An interest bearing debt is said to be amortized when all the
principal and interest are discharged by a sequence of equal payments
at equal intervals of time.
Amortization
R
Pi
n
1 1 i
Where
P = present value of annuity at the end of n periods
R = periodic payments
i = interest rate per interest period
n = term of investment
Example 2.4.8
A sum of RM50000 is to be repaid over a 5 year period through
equal instalments made at the end of each year. If an interest rate of
8% per year is charged on the unpaid balance and interest
calculations are made at the end of each year, determine the size of
each instalment so that the loan is amortized at the end of 5 years.
Solution
P 50000 ,i
R
0.08
,n mt 1 5 5
1
Pi
1 1 i
50000 0.08
1 1 0.08
12522.82
20
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Example 2.4.9
Andy borrowed RM120, 000 from a bank to help finance the
purchase of a house. The bank charges interest at a rate 9% per year
in the unpaid balance, with interest computations made at the end
of each month. Andy has agreed to repay the loan in equal monthly
instalments over 30 years. How much should each payment be if
the loan is to be amortized at the end of the term?
Solution
P 120000,i
0.09
0.0075,n mt 12 30 360
12
R 965.55
21
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iS
n
1 i 1
Where
S = future value of annuity at the end of n periods
R = periodic payments
i = interest rate per interest period
n = term of investment
Example 2.4.10 D
A debt of RM1000 bearing interest at 10% compounded annually is to
be discharged by the sinking fund method. If five annual deposits
are made into a fund which pays 8% compounded annually,
a) Find the annual interest payment
b) Find the size of the annual deposit into the sinking fund
c) What is the annual cost of this debt?
Solution
a annual interest payment RM 1000 0.10 RM 100
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b S 1000,i 0.08,n 5
R
iS
1 i 1
0.08 1000
5
1 0.08 1
n
170.46
c annual cost annual interest payment + annual deposit
RM 100 RM 170.46
RM 270.46
Pay RM 270.46 annually for 5 years
Example 2.4.11
The proprietor of Carling Hardware has decided to set up a sinking
fund for the purpose of purchasing a truck in 2 years time. It is
expected that the truck will cost RM 30000. If the fund earns 10%
interest per year compounded quarterly, determine the size of each
instalment the proprietor should pay.
Solution
R 3434.02 per month for 2 years
Example 2.4.12
Harris, a self employed individual who is 46 years old, is setting up a
defined benefit retirement plan. If he wishes to have RM250000 in
this retirement account by age 65, what is the size of each yearly
instalment he will be required to make into a saving account earning
1
interest at 8 % yr?
4
m=1
Solution
R 5313.59
23
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2.5
Depreciation
24
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Accumulated depreciation
The accumulated depreciation is the total depreciation to date. If the
depreciation for the first year is RM2000 and for the second year
RM1000 then the accumulated depreciation at the end of the second
year is RM3000
Book value
The book value or carrying value of an asset is the value of the asset
as shown in the accounting record. It is the difference between the
original cost and the accumulated depreciation charged to that date.
For example a car which was purchased for RM40000 two years ago,
will have a book value of RM34000 if its accumulated depreciation
for two years is RM6000.
Three method of depreciation are commonly used. These methods are
1. Straight line method
2. Declining balance method
3. Sum of years digits method
2.5.1 Straight Line Method
The straight line method of computing depreciation is the
simplest of the three methods and probably the most common method
used. Under the straight line method, the total amount of depreciation
is spread evenly to each accounting period through the useful life of
the asset. The formula for finding the annual depreciation, annual rate
of depreciation and book value are given below
Straight Line Method
useful life
annual depreciation
annual rate of depreciation
100% or
total depreciation
1
100%
useful life
book value
cost accumulated depreciation 25
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annual depreciation
Example 2.5.1
The book values of an asset after the third year and fifth year using the
straight line method are RM7000 and RM5000 respectively. What is
the annual depreciation of the asset?
Solution
Decline in value from third year to fifth year = RM7000-RM5000
=RM2000
this decline occurs within two years. hence
RM 2000
annual depreciation
2
RM 1000
Example 2.5.2
John Company bought a lorry for RM38000. The lorry is expected to
last 5 years and its salvage value at the end of 5 years is RM8000.
Using the straight line method to;
a) Calculate the annual depreciation
b) Calculate the annual rate of depreciation
c) Calculate the book value of the lorry at the end of third year
d) Prepare a depreciation schedule
Solution
a Cost RM 38000
Salvage value RM 8000
Total Depreciation RM 38000 RM 8000 RM 30000
Useful life 5 years
cost salvage value
annual depreciation
useful life
RM 38000 RM 8000
5
RM 6000
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annual depreciation
100%
total depreciation
6000
100%
30000
20%
c book value cost accumulated depreciation
RM 38000 3 RM 6000
RM 20000
(d)
End of
Year
0
1
2
3
4
5
Annual
Depreciation(RM)
0
6000
6000
6000
6000
6000
Accumulated
Depreciation (RM)
0
6000
12000
18000
24000
30000
27
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r 1 n
Da C C 1 r
Example 2.5.4
Given
Cost of the asset = RM15000
Useful life = 4 years
Scrap value = RM3000
a) Find the annual rate of depreciation
b) Construct the depreciation schedule
Using the declining balance method
Solution
a C RM 15000
S RM 3000
n 4 years
r 1 n
S
C
3000
15000
33.13%
b Depreciation
1 4
29
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n
X the depreciable value of
s
n 1
X the depreciable value of
s
n2
X the depreciable value of the
s
asset and so on
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Example 2.5.5
A machine is purchased for RM45000. Its life expectancy is 5 years
with a zero trade in value. Prepare a depreciation schedule using the
sum of the years digits method.
Solution
useful life,n 5
sum of years digits, S 1 2 3 4 5 15
or
n n 1 5 6
15
2
2
Amount of depreciation for each year is calculated as follows
S
Year
1
2
3
4
5
Annual Depreciation
5
RM 45000 RM 15000
15
4
RM 45000 RM 12000
15
3
RM 45000 RM 9000
15
2
RM 45000 RM 6000
15
1
RM 45000 RM 3000
15
31
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Example 2.5.6
A computer is purchased for RM3600. It is estimated that its salvage
value at the end of 8 years will be RM600. Find the depreciation and
the book value of the computer for third year using the sum of the
years digits method.
Answer
S 36
C RM 3600
S RM 600
Depreciable value =RM3000
Depreciation for the third year =RM500
Accumulated depreciation for the first 3years =RM1750
Book Value = RM 1850
Solution
n n 1 8 9
S
36
2
2
C RM 3600
S RM 600
Depreciable value = Original Cost Salvage Value
=RM3600 RM600
=RM3000
6
Depreciation for the third year =
3000
36
=RM500
7
6
8
RM 3000
36 36 36
=RM1750
32
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