Problem 4-6 future value: ordinary annuity versus annuity due

The future value of an ordinary annuity is the sum of all cash flows, or payments, that occur at the end of each period. In this case, we are dealing with a 8%, 5-year ordinary annuity that pays $350 each year. To calculate the future value of this annuity, we must use the formula:

FV = PMT * (((1 + r) ^ n) – 1) / r

Where FV is future value in dollars; PMT is payment made per period; r is periodic interest rate (in decimal form); and n is number of periods

In our example, we have a 8% annual interest rate and five yearly payments at $350 each giving us:

FV = 350 * ((1 + 0.08) ^ 5 – 1)/0.08

Once we solve for this equation, we get FV equal to $2179.31 which is our answer as to what the future value would be for this 8%, 5-year ordinary annuity paying $350 each year. This means that over the course of five years, these payments will accumulate to a total worth of 2179.31 due to accruing interest on top of those original payments being made annually throughout those five years.