You just inherited a trust that will pay you $100,000 per year in perpetuity.However,the first payment will not occur for exactly five more years.Assuming a 10% annual interest rate,what is the value of this trust?
A)$620,921
B)$683,013
C)$1,000,000
D)$1,100,000

Question

Quizplus · Accepted Answer

We can use the formula for present value of a perpetuity to calculate the value of the trust:
Present Value = Annual Payment / Interest Rate
Present Value = $100,000 / 0.10
Present Value = $1,000,000
However, since the first payment does not occur for another five years, we need to discount this present value back to today using the formula for present value of a lump sum:
Present Value = Future Value / (1 + Interest Rate)^Number of Years
Present Value = $1,000,000 / (1 + 0.10)^5
Present Value = $620,921
Therefore, the best choice is B ($683,013 is not the correct answer, as it does not take into account the time value of money and the delay in the first payment).

You Just Inherited a Trust That Will Pay You $100,000