Time Value of Money

Time is money. Any sum of money payable in the future is worth less than if it is paid today. This is because that sum of money, if paid today, can be put into an interest bearing bank account to earn interest. 

Present value

The present value of that future sum can be determined using the following formula.

PV = FV/(1 + r)n

where PV = Present Value, FV = Future Value, r = interest rate and n = number of years

Example

At 5% interest rate, the present value of a $1000 payment in 3 years' time is only $863.84.

Future value

Correspondingly, there exist a future value of any sum of money can be computed using the following formula.

FV = PV(1 + r)n

where PV = Present Value, FV = Future Value, r = interest rate and n = number of years

Example

At 5% interest rate, the future value of $1000 in 3 years' time is $1157.63.

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