A great many of the financial transactions done by ordinary people, you and I, involve paying or receiving money early and receiving or paying money back later. For example, financing the purchase of a home entails receiving money now and paying money back later.

On the other hand, buying mutual fund shares entails the paying out money now and receiving money back later. The same is true, either paying or receiving, about life insurance, bank savings account, invest in real estate, decide to lease rather than buying a car, etc. etc.

All these everyday life deals center on the time value of money. They arise in all fields of business and personal finance planning, real estate, marketing, investments, accounting, insurance, banking, and many other fields.

Some people erroneously believe that a dollar is a dollar is a dollar. The fact is dollars to be paid or received in different time periods have different values. To receive the money, many people would prefer to receive it as soon as they can. On the same token, they would prefer to pay money as late as they can. For most people, that's intuitive.

For example, if you deposit $1,000 in a savings account and leave it there for one year, you expect to have more than $1,000 in the account at the end of that time. You expect your account to earn interest. You delayed the use of your money and, instead, allowed the bank to use it. You incurred an opportunity cost. The interest the bank gives you is compensation to you for having done so.

Now reverse the situation. Let's say you took out a loan from a bank which will mature in one year, at which time you are obligated to pay $1,000. However, if you repay the loan today, one year early, you believe you should be required to pay less than the full $1,000. If you forgo the opportunity to delay the repayment, you should be compensated in return by having the amount payable reduced.

Here, we have taken up the case of risk-free rate. A reasonable measure of this minimum opportunity cost is the rate of interest available on three-month U.S. Treasury bills which are risk-free.

FVSS = PVSS (1+i) to the power of n.

Where

FVSS = Future Value of a Single Sum

PVSS = Present Value of a Single Sum

i = Compound periodic interest rate, expressed as a decimal

n = Number of periods during which compounding occurs

That is, add the interest rate in decimal to one and raise this sum to a power equal to the number of periods during which the compunding occurs. Then, multiply the result by the present value of the single sum or deposit in question to compute the future value of that sum.

For example, you deposit $5,000 in a new savings account that will earn 9% compound annual interest for nine years.

So, FVSS = 5000 * (1+0.09) to power of 9.

Pick up a calculator and when you solve it, you should get $10,859.47

You will more than double your money if you deposit it for 9 years at 9% compounded interest.

Another safe way to double your money is to fold it over once and put it in your pocket.

- Frank Hubbard

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