Annuity Problem

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September 1st 2011, 09:04 PM
Diamondlance

Annuity Problem

I'm studying for actuarial exam FM/2, and want to verify my calculations with someone. The problem is as follows: "Jerry will make deposits of 450 at the end of each quarter for 10 years. At the end of 15 years, Jerry will use the fund to make annual payments of Y at the beginning of each year for 4 years, after which the fund is exhausted. The effective annual rate of interest is 7%. Determine Y".

I first found the equivalent quarterly rate of interest to be 0.017058525 (since $1.017058525^4=1.07$ ). Then $450\displaystyle\frac{1.07^{40}-1}{0.07}=25512.23$ is the amount in the account after 10 years.

Multiplying that by $1.07^5$ I got 35783.62. This is then equal to the value of the withdrawals at time 15, so $35783.62=1.07Y\displaystyle\frac{1-1.07^{-4}}{0.07}$ , and solving this gave me Y=9873.21.

The answer in the back of the book is 9872, which seems a bit far off for roundoff. Even so, I experimented with different reasonable intermediate round offs and couldn't get 9872...the fluctuations for reasonable round offs were only on the order of a few cents. Did I do something wrong? Any help would be appreciated.
September 2nd 2011, 07:47 AM
dexteronline

Re: Annuity Problem

Quote:

Originally Posted by Diamondlance

I'm studying for actuarial exam FM/2, and want to verify my calculations with someone. The problem is as follows: "Jerry will make deposits of 450 at the end of each quarter for 10 years. At the end of 15 years, Jerry will use the fund to make annual payments of Y at the beginning of each year for 4 years, after which the fund is exhausted. The effective annual rate of interest is 7%. Determine Y".

I first found the equivalent quarterly rate of interest to be 0.017058525 (since $1.017058525^4=1.07$ ). Then $450\displaystyle\frac{1.07^{40}-1}{0.07}=25512.23$ is the amount in the account after 10 years.

Multiplying that by $1.07^5$ I got 35783.62. This is then equal to the value of the withdrawals at time 15, so $35783.62=1.07Y\displaystyle\frac{1-1.07^{-4}}{0.07}$ , and solving this gave me Y=9873.21.

The answer in the back of the book is 9872, which seems a bit far off for roundoff. Even so, I experimented with different reasonable intermediate round offs and couldn't get 9872...the fluctuations for reasonable round offs were only on the order of a few cents. Did I do something wrong? Any help would be appreciated.

25512.23 * (1.07)^5
25512.23 * 1.4025517307
$35782.22

$35782.22 / PVIFAD(7%,4)
$35782.22 / PVIFAD(7%,4)
$35782.22 / 3.62431604442
9872.82

It's still off by $0.82

BTW why did you use 7% in calculating future value of $450 per quarter for 10 years. Shouldn't you have used 7%/4 when compounding that figure
September 2nd 2011, 08:10 AM
dexteronline

Re: Annuity Problem

Quote:

Originally Posted by Diamondlance

I'm studying for actuarial exam FM/2, and want to verify my calculations with someone. The problem is as follows: "Jerry will make deposits of 450 at the end of each quarter for 10 years. At the end of 15 years, Jerry will use the fund to make annual payments of Y at the beginning of each year for 4 years, after which the fund is exhausted. The effective annual rate of interest is 7%. Determine Y".

I first found the equivalent quarterly rate of interest to be 0.017058525 (since $1.017058525^4=1.07$ ). Then $450\displaystyle\frac{1.07^{40}-1}{0.07}=25512.23$ is the amount in the account after 10 years.

Multiplying that by $1.07^5$ I got 35783.62. This is then equal to the value of the withdrawals at time 15, so $35783.62=1.07Y\displaystyle\frac{1-1.07^{-4}}{0.07}$ , and solving this gave me Y=9873.21.

The answer in the back of the book is 9872, which seems a bit far off for roundoff. Even so, I experimented with different reasonable intermediate round offs and couldn't get 9872...the fluctuations for reasonable round offs were only on the order of a few cents. Did I do something wrong? Any help would be appreciated.

I get the same answer as you do

(1+r)^4 = 1.07
r = (1.07)^1/4 - 1
r = (1.07)^1/4 - 1
r = 0.017058525001811312664557166663114
r = 0.017058525

450 * FVIFA(1.7058525%, 40)
450 * 56.6960717383
25513.23

25513.23
25513.23 * (1.07)^5
25513.23 * FVIF(7%,5)
25513.23 * 1.4025517307
35783.63

35783.63 = 1.07 Y [1-(1.07)^-4]/0.07
Y PVIFAD (7%,4) = 35783.63
Y 3.62431604442 = 35783.63
Y = 35783.63 / 3.62431604442
Y = 9873.20
September 2nd 2011, 10:27 AM
Diamondlance

Re: Annuity Problem

Quote:

Originally Posted by dexteronline

BTW why did you use 7% in calculating future value of $450 per quarter for 10 years. Shouldn't you have used 7%/4 when compounding that figure

You're right, one of my original paragraphs has two errors in it (I'm sorry I didn't proofread more carefully). It should read:

I first found the equivalent quarterly rate of interest to be 0.017058525 (since $1.017058525^4=1.07$ ). Then $450\displaystyle\frac{1.017058525^{40}-1}{0.017058525}=25513.23$ is the amount in the account after 10 years.
September 2nd 2011, 10:28 AM
Diamondlance

Re: Annuity Problem

Anyway, thank you for verifying my calculations. :)
September 3rd 2011, 07:11 PM
Wilmer

Re: Annuity Problem

Double confirmation: 9873.21 is right on!!