Question

Frank wants to purchase a Ferrari in 5 years, which costs $300,000 in today’s dollars. He wants to save enough money to be able to buy it without taking out a loan. He can earn 7% on his investments and expects inflation to be 3% per year. What serial payment should Frank make into his investment account at the end of the second year to be able to purchase the Ferrari in 5 years? Serial payments are to be made at the end of each year.

Answer 1

Frank wants to purchase Ferrari in 5 years for $300,000

He will make annual payments at the end of each year for 5 years with each subsequent payment in the Serial payments after First payment will increase by 3% due to inflation.

So, Calculating the First Payment using FV of Growing annuity formula:-

Where, C= First Payments

r = Periodic Interest rate = 7%

g = Inflation rate = 3%

n= no of periods = 5

Future Value = $300,000

C = $49,326.35

First Payment in Serial payments is $49,326.35

Second payment in Serial payments = First payment*(1+Inflation rate)

= $49,326.35*(1+0.03)

Second payment in Serial payments = $50,806.15

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