Question: What is the time value of money? Why should accountants have an understanding of compound interest, annuities, and present value concepts?
The time value of money is described as the relation between money and time. The accountants should have knowledge of the mentioned concepts.
The term time value of money is used in accounting and finance which indicates the relationship between money and time. The dollar which is received at present has value more than the dollar promised at a particular point in time. This is because of the opportunity to invest a dollar of current and interest received on the investment.
The accountants should have an understanding of compound interest, annuities, and the present value concepts because they have various functions which are as follows:
Compound Interest: It is the method of calculating interest thatuses the accumulated balance of principal and interest at the end of each year.
Present value of an annuity: It refers to the single sum of money which is invested at compound interest now, for a certain number of future periods.
Present value of an ordinary annuity: It refers to the series of equal rents that are to be withdrawn at equal intervals at the end of the period.
John Fillmore’s lifelong dream is to own his own fishing boat to use in his retirement. John has recently come into an inheritance of $400,000. He estimates that the boat he wants will cost $300,000 when he retires in 5 years. How much of his inheritance must he invest at an annual rate of 8% (compounded annually) to buy the boat at retirement?
Your client, Keith Moreland Leasing Company, is preparing a contract to lease a machine to Souvenirs Corporation for a period of 25 years. Moreland has an investment cost of $365,755 in the machine, which has a useful life of 25 years and no salvage value at the end of that time. Your client is interested in earning an 11% return on its investment and has agreed to accept 25 equal rental payments at the end of each of the next 25 years.
Instructions You are requested to provide Moreland with the amount of each of the 25 rental payments that will yield an 11% return on investment.
Answer each of these unrelated questions.
(a) On January 1, 2017, Fishbone Corporation sold a building that cost $250,000 and that had accumulated depreciation of $100,000 on the date of sale. Fishbone received as consideration a $240,000 non-interest-bearing note due on January 1, 2020. There was no established exchange price for the building, and the note had no ready market. The prevailing rate of interest for a note of this type on January 1, 2017, was 9%. At what amount should the gain from the sale of the building be reported?
(b) On January 1, 2017, Fishbone Corporation purchased 300 of the $1,000 face value, 9%, 10-year bonds of Walters Inc. The bonds mature on January 1, 2027, and pay interest annually beginning January 1, 2018. Fishbone purchased the bonds to yield 11%. How much did Fishbone pay for the bonds?
(c) Fishbone Corporation bought a new machine and agreed to pay for it in equal annual installments of $4,000 at the end of each of the next 10 years. Assuming that a prevailing interest rate of 8% applies to this contract, how much should Fishbone record as the cost of the machine?
(d) Fishbone Corporation purchased a special tractor on December 31, 2017. The purchase agreement stipulated that Fishbone should pay $20,000 at the time of purchase and $5,000 at the end of each of the next 8 years. The tractor should be recorded on December 31, 2017, at what amount, assuming an appropriate interest rate of 12%?
(e) Fishbone Corporation wants to withdraw $120,000 (including principal) from an investment fund at the end of each year for 9 years. What should be the required initial investment at the beginning of the first year if the fund earns 11%?
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