Question

The Perpetual Life Insurance Co. is trying to sell you an investment policy that will pay you and your heirs $18,500 per year forever.

If the required return on this investment is 5.9 percent, how much will you pay for the policy? (Round your answer to 2 decimal places, e.g., 32.16.)

Present value

$

Suppose the Perpetual Life Insurance Co. told you the policy costs $460,000. At what interest rate would this be a fair deal? (Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Interest rate

%

Answer 1

Answer a.

Annual payment = $18,500
Required return = 5.90%

Present value = Annual payment / Required return
Present value = $18,500 / 0.0590
Present value = $313,559.32

Answer b.

Annual payment = $18,500
Cost of policy = $460,000

Interest rate = Annual payment / Cost of policy
Interest rate = $18,500 / $460,000
Interest rate = 0.0402 or 4.02%