Interest Encon 1
Interest Encon 1
Simple interest
- is calculated using the principal only, ignoring any interest that had been accrued in
preceding periods. It is paid in short-term loans in which the time of the loan is
measured in days.
I = Pni
F = P + I = P + Pni = P (1 + ni)
Where: I = Interest
a. Ordinary simple interest is computed on the basis of 12 months of 30 days each or 360
days a year.
n = d/360
b. Exact simple interest is based on the exact number of days in a year, 365 days for an
To determine the year whether leap year or not, one has to divide the year by 4. If it is
exactly divisible by 4, the year is said to be leap year otherwise, it will be considered just a normal
year with 365 days. However, if the year is a century year, ending with two zeros (e.g. 1700, 1800)
the year must be divided by 400 instead of 4 to determine the year whether or not a leap year.
Examples:
1. Determine the ordinary simple interest on P700 for 8 months and 15 days if the rate of
2. Determine the exact simple interest on P500 for the period from January10 to October
3. A P4 000 is borrowed for 75 days at 16% per annum simple interest. How much will
4. How long must a P40 000 note bearing 4% simple interest run to amount to P 41 350?
(n = 0.84375 years)
Compound Interest
-the interest for an interest period is calculated on the principal plus total amount of interest
Rates of Interest
- specifies the rate of interest and a number of interest periods in one year.
- is the actual or exact rate of interest on the principal during one year. If P1.00 is
invested at a nominal rate of 15% compounded quarterly, after one year this will
The actual interest earned is 0.1586, therefore, the rate of interest after one year is
15.86%. Hence,
Effective rate = F1 -1 = (1 + i)m -1
Examples:
1. Find the nominal rate which if converted quarterly could be used instead of 12%
[1 + (r/4)4- 1 = [1 + (0.01)]12 – 1
2. Mr. Pamolino, a chemical engineer wished to accumulate a total of P10 000 in a savings account
at the end of 10 years. If the bank pays only 4% compounded quarterly, what should be the initial
deposit? (P = 6 716.53)
3. By the conditions of a will, the sum of P25 000 is left to a girl to be held in trust by her guardian
until it amounts to P45 000. When will the girl receive the money if the fund is invested at 8%
- is obtained by setting the sum of the values on a certain comparison or focal date of
one set of obligations equal to the sum of the values on the same date of another set of
obligations.
Example:
Noel bought a lot worth P1 000 000 if paid in cash. On the installment basis, he paid a
down payment of P200 000; P300 000 at the end of one year; P400 000 at the end of three years
and a final payment at the end of five years. What was the final payment if interest was 20%.
800 000
300 000
400000(P/F, 20%,3) Q
Q(P/F, 20%, 5)
P800 000 = P300 000 (P/F, 20%, 1) + P400 000 (P/F, 20%, 3) + Q(P/F, 20%, 5)
Q = P792 560
Continuous Compounding and Discrete Payments
In discrete compounding, the interest is compounded at the end of each finite-length period,
In continuous compounding, it is assumed that cash payments occur once per year, but the
F = P ( 1 + r/m) mn
[ ( 1 + 1/k) k] rn = er n
Thus, F = P er n
P = F e –r n
Example: Compare the accumulated amounts after 5 years of p1 000 invested at the rate of 10%
per year compounded (a) annually (b) semiannually (c) quarterly (d) monthly (e) daily and (f)
continuously.
1. April buys a microwave oven from a merchant who asks P1250 at the end of 60 days.
April wishes to pay immediately and the merchant offers to compute the cash price on
the assumption that money is worth 8% simple interest. What is the cash price? (P=
1233.55)
2. Geowie borrowed money from a loan shark. He receives from the loan shark an amount
of P1342 and promised to pay P1500 at the end of 3 quarters. What is the simple
3. Determine the exact simple interest of P5000 invested for the period from January 15,
4. The exact simple interest of P5000 invested from June 21, 1995 to December 25, 1995
6. Find the nominal rate, which if converted quarterly could be used instead of 12%
7. A sum of P1000 is invested now and left for eight years at which time the principal is
withdrawn. The interest has accrued is left for another 8 years. If the effective annual
interest rate is 5%, what will be the withdrawal amount at the end of 16th year? (F =
705.42)
8. Vernelli plans to deposit P1500 in the bank now and another P3000 for the next 2 years.
If he plans to withdraw P5000 three years from after her last deposit for the purpose of
buying shoes, what will be the amount of money left in the bank after one year of his
9. Funds are deposited in a saving account at an interest of 8% per annum. What is the
initial amount that must be deposited to yield a total of P10 000 in 10 years. (P =
4631.93)
10. A deposit of P1000 is made in the bank account that pays 8% interest compounded
annually. Approximately how much money will be in the account after 10 years? (F =
2158.92)
a. 1988
b. 1974
c. 1800
d. 1973
e. 2400
Discount
Discount on a negotiable paper is the difference between the present worth (the amount
received for the paper in cash) and the worth of the paper at some time in the future (the face value
The rate of discount (d) is the discount on one unit of principal for one unit of time
(1 + i)-1
P 1. 00
Example:
A man borrowed P 5 000 from a bank and agreed to pay the loan at the end of 9 months.
The bank discounted the loan and gave him P4 000 in cash. (a) What was the rate of discount? (b)
What was the rate of interest (c) What was the rate of interest for one year?
d = 1- 0.80 = 0.20 or 20 %
b. i = [d/(1-d)] = [0.20 /(1- 0.20)] = 0.25 or 25% or
Problem Exercises:
1. A price tag of P1200 is payable in 60 days but if paid within 30 days it will have a 3%
2. Mr. John dela Cruz borrowed money from a bank. He receives from the bank of P1340
(d = 13.73%)
3. Carlos borrowed P2000 from a bank and promised to pay the amount for one year. He
received only the amount of P1920 after the bank collected an advance interest of P80.
What were the rate of discount and the rate of interest that the bank collected in