Question

You decided to borrow $20,000and make payments at the end of each month for 10years. The maximum monthly payment you can afford is $1000. What is the maximum interest rate you can afford(keep two decimal places)? What is the maximum interest rate you can afford if you are making payments at the beginning of each month for 10 years (keep two decimal places)?

Answer 1

1.Information provided:

Present value= $20,000

Time= 10 years*12= 120 months

Monthly payment= $1,000

The question pertains to ordinary annuity which is computed with the help of a financial calculator in the default END mode.

The question is computed by calculating the yield to maturity.

The yield to maturity is calculated by entering the below in a financial calculator:

PV= -20,000

PMT= 1,000

N= 120

Press the CPT key and I/Y to compute the yield to maturity.

The value obtained is 4.9854.

Therefore, the maximum interest rate I can afford if I make monthly payments at the end of a month is 4.99%.

2.Information provided:

Present value= $20,000

Time= 10 years*12= 120 months

Monthly payment= $1,000

The question pertains to annuity due. Annuity due refers to annuity that occurs at the beginning of a period.

This can also be solved using a financial calculator by inputting the below into the calculator in BGN mode:

The financial calculator is set in the end mode. Annuity due is calculated by setting the calculator to the beginning mode (BGN). To do this, press 2^ndBGN 2^ndSET on the Texas BA II Plus calculator.

The yield to maturity is calculated by entering the below in a financial calculator:

PV= -20,000

PMT= 1,000

N= 120

Press the CPT key and I/Y to compute the yield to maturity.

The value obtained is 5.25.

Therefore, the maximum interest rate I can afford if I make monthly payments at the beginning of a month is 5.25%.