SH1902

Annuities
An annuity is an amount to be paid, usually in equal amounts at equal time intervals (Regacho,
Benjamin, & Oryan, 2017, p. 165). Annuities are usually applied in payments for large purchases. It
may also be considered as an investment with the promise that it will be paid over a certain number of
periods.

Common Applications:
• Houses • Cars
• Condominiums • Insurance plans

Annuities are classified according to payment intervals and interest conversion periods.
• Payment interval - The time between successive payments of an annuity
• Term of an annuity - The number of periods from the first payment interval to the last payment
interval

Simple annuity – Classification of annuity wherein payment intervals and interest conversion periods
are the same

General annuity – Classification of annuity wherein payment intervals and interest conversion
periods are unequal

Simple and general annuities are further classified into three (3) classifications.

• Ordinary annuity (annuity-immediate) – Periodic payments are made at the end of the
payment intervals.

• Annuity due – Periodic payments are made at the beginning of payment intervals.

• Deferred annuity – Periodic payment is due at some later date.

Accumulation phase – The time money is put into the annuity until it is released

Distribution phase – The time after the release of annuity

If each phase consists of a single payment, then there is no annuity. If each phase consists of more than
one payment, then an annuity exists. The present value or future value of a sequence of payments can
be computed like the present value or future value of a single amount. But, recursive computation for
every payment and adding them together would be tedious.

Thus, you use a formula to calculate the present value (𝑃𝑃𝑃𝑃) and the future value (𝐹𝐹𝐹𝐹) of an ordinary
annuity given periodic payment (𝑅𝑅), interest rate per period (𝑖𝑖), and number of payment periods (𝑛𝑛).

(1 + 𝑖𝑖)𝑛𝑛 − 1 (1 + 𝑖𝑖)𝑛𝑛 − 1
𝑃𝑃𝑃𝑃 = 𝑅𝑅 � � 𝐹𝐹𝐹𝐹 = 𝑅𝑅 � �
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛 𝑖𝑖

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 SH1902

Example:
Money is worth 12% compounded quarterly. What are the present and future values of an ordinary
annuity paying ₱1500 quarterly for 12 years?
Solution:
0.12
With 𝑖𝑖 = 4 = 0.03, 𝑅𝑅 = ₱1,500, and 𝑛𝑛 = 12(4) = 48, then,

(1 + 𝑖𝑖)𝑛𝑛 − 1 (1 + 𝑖𝑖)𝑛𝑛 − 1
𝑃𝑃𝑃𝑃 = 𝑅𝑅 � � 𝐹𝐹𝐹𝐹 = 𝑅𝑅 � �
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛 𝑖𝑖
(1 + 0.03)48 − 1 (1 + 0.03)48 − 1
= ₱1500 � � = ₱1500 � �
0.03(1 + 0.03)48 0.03
(1.03)48 − 1 (1.03)48 − 1
= ₱1500 � � = ₱1500 � �
0.03(1.03)48 0.03
= ₱37,900.06 = ₱156,612.59

Therefore, the present value of the annuity is ₱37,900.06, and its future value is ₱156,612.59.

Example:
Benicio paid ₱150,000 as down payment for a vacant lot and agreed to pay ₱21,000 at the end of
every six (6) months for five (5) and a half years to complete the purchase of the lot. If money is
worth 10% compounded semiannually, what is the equivalent cash price of the lot?
Solution:
The cash price of the lot is equal to the sum of the down payment and the annuity of 11 payments.
0.1
Note that 𝑅𝑅 = ₱21,000, 𝑖𝑖 = 2 = 0.05, and 𝑛𝑛 = 5.5(2) = 11. Hence,

(1 + 𝑖𝑖)𝑛𝑛 − 1
𝑃𝑃𝑃𝑃 = 𝑅𝑅 � �
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛
(1 + 0.05)11 − 1
= ₱21,000 � �
0.05(1 + 0.05)11
(1.05)11 − 1
= ₱21,000 � �
0.05(1.05)11
= ₱174,434.70.

Therefore, the cash price of the lot is ₱150,000 + ₱174,434.70 = ₱324,434.70.

The present value of an annuity due (𝑃𝑃𝑉𝑉due ) is the sum of the present values of the periodic
payments. The future value of an annuity due (𝐹𝐹𝑉𝑉due ) is the sum of the accumulated values of the
payments at the end of the term. That is, given the periodic payment 𝑅𝑅, the interest rate 𝑖𝑖, and the
number of payment periods 𝑛𝑛, 𝑃𝑃𝑉𝑉due and 𝐹𝐹𝑉𝑉due are solved as follows:

1 − (1 + 𝑖𝑖)1−𝑛𝑛 (1 + 𝑖𝑖)𝑛𝑛+1 − 1
𝑃𝑃𝑉𝑉due = 𝑅𝑅 � + 1� 𝐹𝐹𝑉𝑉due = 𝑅𝑅 � − 1�
𝑖𝑖 𝑖𝑖

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 SH1902

Example:
If money is worth 8% compounded quarterly, what is the present value and the future value of an
annuity due paying ₱2,500 quarterly for a term of two (2) years?
Solution:
The problem could be presented using the time diagram below.

0.08
With 𝑖𝑖 = 4
= 0.02, 𝑅𝑅 = ₱2,500, and 𝑛𝑛 = 2(4) = 8, then,

1 − (1 + 𝑖𝑖)1−𝑛𝑛 (1 + 𝑖𝑖)𝑛𝑛+1 − 1
𝑃𝑃𝑉𝑉due = 𝑅𝑅 � + 1� 𝐹𝐹𝑉𝑉due = 𝑅𝑅 � − 1�
𝑖𝑖 𝑖𝑖
1 − (1 + 0.02)1−8 (1 + 0.02)8+1 − 1
= ₱2,500 � + 1� = ₱2,500 � − 1�
0.02 0.02
1 − (1.02)−7 (1.02)9 − 1
= ₱2,500 � + 1� = ₱2,500 � − 1�
0.02 0.02
= ₱18,679.98 = ₱21,886.57

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 SH1902

An annuity whose term does not begin until the expiration of specified time is called a deferred
annuity. To say that an annuity is deferred for a certain time means that the term of the annuity starts
at the end of this time. The present value of a deferred annuity (𝑃𝑃𝑉𝑉def) whose term is 𝑛𝑛 interest
periods and is deferred 𝑑𝑑 periods, is equal to the present value of all payments for 𝑛𝑛 + 𝑑𝑑 periods minus
the present value of the 𝑑𝑑 periods.

Present Value of 𝑛𝑛 + 𝑑𝑑 periods

(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 − 1
𝑅𝑅 � �
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑

𝑛𝑛 + 𝑑𝑑 periods
𝑑𝑑 periods deferral 𝑛𝑛 interest periods

Present Value of 𝑑𝑑 periods

(1 + 𝑖𝑖)𝑑𝑑 − 1
𝑅𝑅 � �
𝑖𝑖(1 + 𝑖𝑖)𝑑𝑑

Given the periodic payment 𝑅𝑅, the interest rate per period 𝑖𝑖, and the number of deferred periods 𝑑𝑑,
then
(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 − 1 (1 + 𝑖𝑖)𝑑𝑑 − 1
𝑃𝑃𝑉𝑉def = 𝑅𝑅 � � − 𝑅𝑅 � �
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 𝑖𝑖(1 + 𝑖𝑖)𝑑𝑑
(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 − 1 (1 + 𝑖𝑖)𝑑𝑑 − 1
= 𝑅𝑅 � − �
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 𝑖𝑖(1 + 𝑖𝑖)𝑑𝑑
(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 − 1 (1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 − (1 + 𝑖𝑖)𝑛𝑛
= 𝑅𝑅 � − �
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑
(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 − 1 − [(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑 − (1 + 𝑖𝑖)𝑛𝑛 ]
= 𝑅𝑅 � �.
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑

Simplifying further, we arrive at the formula below.

(1 + 𝑖𝑖)𝑛𝑛 − 1
𝑃𝑃𝑉𝑉def = 𝑅𝑅 � �
𝑖𝑖(1 + 𝑖𝑖)𝑛𝑛+𝑑𝑑

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 SH1902

Example:
What is the present value of an annuity whose sequence of 12 annual payments of ₱3,000 at a rate
of 5%, with the first one due at the end of five (5) years?

Solution:
The time diagram for the problem can be made as follows.

16 periods

4 periods of Term: 12 annual payments

deferral

Let 𝑅𝑅 = ₱3,000, 𝑛𝑛 = 12, 𝑑𝑑 = 4, and 𝑖𝑖 = 0.05, then

(1 + 0.05)12 − 1
𝑃𝑃𝑉𝑉def = ₱3,000 � �
0.05(1 + 0.05)12+4
(1.05)12 − 1
= ₱3,000 � �
0.05(1.05)16
= ₱21,875.46

References:
Chua, R., Ubarro, A., & Wu, Z. (2016). Soaring 21st century mathematics (general mathematics).
Quezon City: Phoenix Publishing House.
Fernando, O. (2016) Next century mathematics (general mathematics). Quezon City: Phoenix
Publishing House.
Lim, Y., Nocon E., Nocon, R., & Ruivivar L. (2016). Math for engaged learning (general
mathematics). Quezon City: Sibs Publishing House.
Melosantos, L. (2016). Math connections in the digital age (general mathematics). Quezon City:
Sibs Publishing House.
Regacho, C., Benjamin, M., & Oryan, S. (2017). Mathematics skills for life. Quezon City: Abiva
Publishing House, Inc.
Zorilla, R. (2016). General mathematics for senior high school. Malabon City: Mutya Publishing
House.

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