Finance

11.
1 The Simple Interest Formula
Find simple interest by using the simple interest formula.
Find the maturity of a loan.

Convert months to a fractional or decimal part of the year. Find the principal, rate or time using the simple interest formula.
Business Math, Eighth Edition Cleaves/Hobbs
2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
Key Terms
Interest: an amount paid or earned for the use of money. Simple interest: interest earned when a loan or investment is repaid in a lump sum.
Principal: the amount of money borrowed or invested.

Rate: the percent of the principal paid as interest per time period. Time: the number of days, months or years that the money is borrowed or invested.
Business Math, Eighth Edition Cleaves/Hobbs 2009 Pearson Education, Inc. Upper Saddle River, NJ 07458 All Rights Reserved
11.1.1 The Simple Interest Formula
The interest formula shows how interest, rate, and time are related and gives us a way of finding one of these values if the other three values are known.
I=PxRxT
Find the simple interest using the simple interest formula
Identify the principal, rate and time

P=RxB

The interest is a percentage.
Principal is the amount borrowed or invested.

Rate of interest is a percent for a given time period, usually one year.
Time must be expressed in the same unit of time as the rate. (i.e. one year)
Find the interest paid on a loan

Principal = (P) $1,200 Interest rate = 8% (or 0.08) Time = 1 year
Interest = P x R x T
Interest = 1,200 x 0.08 x 1
Interest = $96
The interest on the loan is $96.
Try these examples
Find the interest on a 2-year loan of $4,000 at a 6% rate. $480 Find the interest earned on a 3-year investment of $5,000 at 4.5% interest.
$675
11.1.2 Find the Maturity Value of a Loan
Maturity value: the total amount of money due by the end of a loan period; the amount of the loan and interest. If the principal and the interest are known, add them. MV = principal + PRT MV = P(1+RT)
Look at this example
Marcus Logan can purchase furniture on a 2-year simple interest loan at 9% interest per year. What is the maturity value for a $2,500 loan?
MV = P (1 + RT) Substitute known values.

MV = $2,500 ( 1 + 0.09 x 2)
(See next slide)
What is the maturity value?

MV = $2,500 ( 1 + 0.09 x 2) MV = $2,500 (1 + 0.18) MV = $2,500 (1.18) MV = $2,950

Marcus will pay $2,950 at the end of two years.
Try these examples
Terry Williams is going to borrow $4,000 at 7.5% interest. What is the maturity value of the loan after three years? $4,900 Jim Sherman will invest $3,000 at 8% for 5 years. What is the maturity value of the investment? $4,200
11.1.3 Convert Months to a Fractional or Decimal Part of a Year
Write the number of months as the numerator of a fraction. Write 12 as the denominator of the fraction. Reduce the fraction to lowest terms if using the fractional equivalent. Divide the numerator by the denominator to get the decimal equivalent of the fraction.
Convert the following to fractional or decimal part of a year
Convert 9 months and 15 months, respectively, to years, expressing both as fractions and decimals. 9/12 = = 0.75
9 months = or 0.75 of a year 15/12 = 1 3/12 = 1 = 1.25 15 months = 1 or 1.25 of a year.
To save money, Stan Wright invested $2,500 for 42 months at 4 % simple interest. How much interest did he earn? 42 months = 42/12 = 3.5 I=PxRxT I = $2,500 x 0.045 x 3.5
I = $393.75
Stan will earn $393.75
Try these examples
Akiko is saving a little extra money to pay for her car insurance next year. If she invests $1,000 for 18 months at 4%, how much interest can she earn? $60
Habib is going to borrow $2,000 for 42 months at 7% . What will the amount of interest owed be? $490
11.1.4 Find the Principal, Rate or Time Using the Simple Interest Formula
Find the principal using the simple interest formula

P = I / RT Judy paid $108 in interest on a loan that she had for 6 months. The interest rate was 12%. How much was the principal? Substitute the known values and solve.
P = 108/ 0.12 x 0.5

P = $1,800
Find the rate using the simple interest formula

R = I / PT Sam wants to borrow $1,500 for 15 months and will have to pay $225 in interest. What is the rate he is being charged? Substitute the known values and solve. R = 225/ $1,500 x 1.25
R = .12 or 12%
The rate Sam will pay is 12%.
Find the time using the simple interest formula

T = I / RP
Shelby borrowed $10,000 at 8% and paid $1,600 in interest. What was the length of the loan? Substitute the known values and solve. T = $1,600/0.08 x $10,000
T=2
The length of the loan was two years.
11.2 Ordinary and Exact Interest

Find exact time.
Find the due date.

Find the ordinary interest and the exact interest. Make a partial payment before the maturity date.
11.2.1 Find Exact Time
Ordinary time: time that is based on counting 30 days in each month. Exact time: time that is based on counting the exact number of days in a time period.
Examples
The ordinary time from July 12 to September 12 is 60 days. To find the exact time from July 12 to September 12, add the following: Days in July (31 - 12 =) 19 31 Days in August
Days in September
+12
62 days
Sequential Numbers for Dates of the Year
Find the exact time of a loan using the sequential numbers table. (Table 11-1 in the text)
If the beginning and due dates of the loan fall within the same year, subtract the beginning dates sequential number from the due dates sequential number. Ex.: From May 15 to October 15 288-135 = 153 days is the exact time
Beginning and due dates in different years
Subtract the beginning dates sequential number from 365.

Add the due dates sequential number to the result from the previous step. If February 29 falls between the two dates, add 1. (Is it a leap year?)
Find the exact time from May 15 on Year 1 to March 15 in Year 2. 365 135 = 230
230 + 74 = 304 days

The exact time is 304 days. Note: If Year 2 is a leap year, the exact time is 305 days.
Try this example
A loan made on September 5 is due July 5 of the following year. Find: a) ordinary time b) exact time in a non-leap year c) exact time in a leap year.
Ordinary time = 300 days
Exact time (non-leap year) = 303 days

Exact time (leap year) = 304 days
11.2.3 Find the Ordinary Interest and the Exact Interest
Ordinary interest: a rate per day that assumes 360 days per year. Exact interest: a rate per day that assumes 365 days per year. Bankers rule: calculating interest on a loan based on ordinary interest and exact time which yields a slightly higher amount of interest.
Find the ordinary interest per day
For ordinary interest rate per day, divide the annual interest rate by 360. Ordinary interest rate per day = Interest rate per year 360
Find the exact interest per day
For exact interest rate per day, divide the annual interest rate by 365. Exact interest rate per day = Interest rate per year 365
Use ordinary time to find the ordinary interest on a loan
A loan of $500 at 7% annual interest rate. The loan was made on March 15 and due on May 15. (Principal = $500) I = P x R x T Length of loan (ordinary time) = 60 days
Rate = 0.07/360 (ordinary interest) Interest = $500 x 0.07/360 x 60 Interest = $5.83
Find the ordinary interest using exact time for the previous loan
A loan of $500 at 7% annual interest rate. The loan was made on March 15 and due on May 15. (Principal = $500) I = P x R x T Length of loan (exact time) = 61 days
Rate = 0.07/360 (ordinary interest) Interest = $500 x 0.07/360 x 61 Interest = $5.93
Find the exact interest using exact time for the previous loan
A loan of $500 at 7% annual interest rate. The loan was made on March 15 and due on May 15. (Principal = $500) I = P x R x T Length of loan (exact time) = 61 days Rate = 0.07/365 (exact interest)
Interest = $500 x 0.07/365 x 61

Interest = $5.84
11.2.4 Make a Partial Payment Before the Maturity Date

To find the adjusted principal and adjusted balance due at maturity for a partial payment made before the maturity date:
1. Determine the exact time from the date of the loan to the first partial payment. 2. Calculate the interest using the time found in Step 1. (continue on next slide)
11.2.4 Make a Partial Payment Before the Maturity Date

3. Subtract the amount of interest found in Step 2 from the partial payment.
4. Subtract the remainder of the partial payment (Step 3) from the original principal. This is the adjusted principal. 5. Repeat process for additional partial payments. 6. At maturity, calculate interest from the last partial payment and add to adjusted principal. This is the adjusted balance due at maturity.
Tony borrows $5,000 on a 10%, 90 day note. On the 30th day, Tony pays $1,500 on the note. If ordinary interest is applied, what is Tonys adjusted principal after the partial payment, and adjusted balance due at maturity? $5,000(.1)(30/360) = $41.67 $1,500 - $41.67 = $1,458.33 $5,000 - $1,458.33 = $3,541.67 (Adj. Principal) $3,541.67(.1)(60/360) = $59.03 (Interest) $3,541.67 + $59.03 = $3,600.70 (Adj. Balance)
11.3 Promissory Notes
Find the bank discount and proceeds for a simple discount note. Find the true effective interest rate of a simple discount note.
Find the third-party discount and proceeds for a third-party discount note.
11.3.1 Find the Bank Discount and Proceeds for a Simple Discount Note
For the bank discount, use: Bank discount = face value x disc. rate x time [I = P x R x T] For the proceeds, use: Proceeds = face value bank discount A=P-I
A promissory note
11.3.2 Find the True of Effective Interest Rate of a Simple Discount Note To find the true or effective interest rate of a simple discount note: 1. Find the bank discount (interest). I = PRT 2. Find the proceeds: proceeds = principal bank discount. 3. Find the effective interest rate: R = I/PT using the proceeds as the principal
Try this example
What is the effective interest rate of a $5,000 simple discount note, at an ordinary bank discount rate of 12%, for 90 days? I = PRT; I = $5,000(.12)(90/360) I = $150 (Bank discount) Proceeds = $5,000 - $150 = $4,850 R = I/PT; R = $150/$4,850(90/360) R = .1237113402 R or the effective interest rate = 12.4%
11.3.3 Find the Third Party Discount and Proceeds for a Third Party Discount Note
For the bank discount, use: Third party discount = maturity value of the original note x discount rate x discount period. For the proceeds, use: Proceeds = maturity value of original note third-party discount A=P-I
Mihoc Trailer made a note of $10,000 with Darcy Mihoc, owner, at 9% simple interest based on exact interest and exact time. The note is made on August 12 and due November 10. Since Mihoc Trailer needs cash, the note is taken to a third party on September 5. The third-party agrees to accept the note with a 13% annual discount using the bankers rule. Find the proceeds of the note.
Mihoc Trailer Sales
To find the proceeds, we find the maturity value of the original note, then the third-party discount. Exact time is 90 days (314-224) Exact interest rate is .09/365 MV = P(1+ RT)
MV = $10,000 ( 1 + 0.09/365 x 90)

MV = $10.221.92
Find the proceeds of the note
Exact time of the discount period is 66 days. (314 - 248) period between Sept. 5 and Nov. 10. Ordinary discount rate is 0.13/ 360. Third party discount = I = PRT Third party discount = $10,221.92 (0.13/360)(66) Third party discount = $243.62 Proceeds = A = P I Proceeds = $10,221.92 - $243.62 = $9,978.30

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11.

1 The Simple Interest Formula

Find simple interest by using the simple interest formula.

Find the maturity of a loan.

Business Math, Eighth Edition Cleaves/Hobbs

Principal: the amount of money borrowed or invested.

11.1.1 The Simple Interest Formula

Business Math, Eighth Edition Cleaves/Hobbs

Find the simple interest using the simple interest formula

Business Math, Eighth Edition Cleaves/Hobbs

Identify the principal, rate and time

The interest is a percentage.

Principal is the amount borrowed or invested.

Find the interest paid on a loan

Principal = (P) $1,200 Interest rate = 8% (or 0.08) Time = 1 year

Try these examples

Business Math, Eighth Edition Cleaves/Hobbs

11.1.2 Find the Maturity Value of a Loan

Look at this example

MV = P (1 + RT) Substitute known values.

Business Math, Eighth Edition Cleaves/Hobbs

What is the maturity value?

MV = $2,500 ( 1 + 0.09 x 2) MV = $2,500 (1 + 0.18) MV = $2,500 (1.18) MV = $2,950

Business Math, Eighth Edition Cleaves/Hobbs

Try these examples

Business Math, Eighth Edition Cleaves/Hobbs

11.1.3 Convert Months to a Fractional or Decimal Part of a Year

Convert the following to fractional or decimal part of a year

Look at this example

Try these examples

Business Math, Eighth Edition Cleaves/Hobbs

Find the principal using the simple interest formula

P = 108/ 0.12 x 0.5

Find the rate using the simple interest formula

Find the time using the simple interest formula

11.2 Ordinary and Exact Interest

Find exact time.

Find the due date.

Business Math, Eighth Edition Cleaves/Hobbs

11.2.1 Find Exact Time

Business Math, Eighth Edition Cleaves/Hobbs

Business Math, Eighth Edition Cleaves/Hobbs

Sequential Numbers for Dates of the Year

Beginning and due dates in different years

Subtract the beginning dates sequential number from 365.

Business Math, Eighth Edition Cleaves/Hobbs

Look at this example

230 + 74 = 304 days

Try this example

Ordinary time = 300 days

Exact time (non-leap year) = 303 days

11.2.3 Find the Ordinary Interest and the Exact Interest

Business Math, Eighth Edition Cleaves/Hobbs

Find the ordinary interest per day

Business Math, Eighth Edition Cleaves/Hobbs

Find the exact interest per day

Business Math, Eighth Edition Cleaves/Hobbs

Use ordinary time to find the ordinary interest on a loan

Interest = $500 x 0.07/365 x 61

11.2.4 Make a Partial Payment Before the Maturity Date

11.2.4 Make a Partial Payment Before the Maturity Date

Look at this example

11.3 Promissory Notes