Harry has just inherited $300,000. Harry has decided to quit his job and go to school full time for the next five years by living off this inheritance. Harry will invest the $300,000 in a money market account that has an 8% interest rate. If Harry's goal is to use up the entire inheritance, approximately what amount can he withdraw from the money market account each year for the next five years? Assume that his first withdrawal will be one year from the day that he sets up the account.
A)$64,800
B)$74,400
C)$75,131
D)$84,000

Question

Quizplus · Accepted Answer

The present value of the inheritance is $300,000. We want to know the amount Harry can withdraw annually for five years, so we need to use the annuity formula:

PV = (PMT/i) x [1 - 1/(1+i)^n ]

where PV is the present value, PMT is the annual withdrawal amount, i is the interest rate per period, and n is the number of periods.

Plugging in the values we know:

$300,000 = (PMT/0.08) x [1 - 1/(1+0.08)^5 ]

Simplifying and solving for PMT, we get:

PMT = ($300,000 x 0.08 x 1.469) / 4.868

PMT ≈ $75,131

Therefore, Harry can withdraw approximately $75,131 per year for five years if he wants to use up the entire inheritance. Thus the best choice is (C).

Harry Has Just Inherited $300,000