You are the beneficiary of a life insurance policy. The insurance company informs you that you have two options for receiving the insurance proceeds. You can receive a lump sum of $150,000 today or receive payments of $1,627.89 a month for 10 years. You can earn 7.5% on your money. Which option should you take and why?

Question

Quizplus · Accepted Answer

To determine the best option, calculate the present value (PV) of the annuity (monthly payments for 10 years) using the given interest rate (7.5% annually, or approximately 0.625% monthly). The formula for the present value of an annuity is PV = P * [(1 - (1 + r)^-n) / r], where P is the payment amount, r is the monthly interest rate, and n is the total number of payments. Plugging in the values (P = $1,627.89, r = 0.0075/12, n = 10*12), the present value of the annuity is calculated to be less than $150,000, which matches the description in option D. Therefore, accepting the $150,000 lump sum is financially more advantageous than the annuity option, given the 7.5% interest rate opportunity.

You Are the Beneficiary of a Life Insurance Policy