If you borrow $20 000 as a five-year loan from the bank and the bank requires you to make end-of-year payments of $4878.05, what is the annual interest rate on this loan?
A)8 percent
B)6 percent
C)7 percent
D)9 percent

Question

Quizplus · Accepted Answer

We can use the formula for present value of an annuity to solve for the interest rate.
PV = PMT x (1 - (1 + r)^-n) / r
where PV = present value of loan ($20 000), PMT = payment per year ($4878.05), r = annual interest rate, and n = number of years (5).

Substituting the given values:
$20 000 = $4878.05 x (1 - (1 + r)^-5) / r

Using trial and error, we can find that the annual interest rate that satisfies this equation is approximately 7 percent. Therefore, the best choice is C.

If You Borrow $20 000 as a Five-Year Loan from the Bank