Question

Julie has just retired. Her company’s retirement program has two options as to how retirement benefits can be received. Under the first option, Julie would receive a lump sum of $138,000 immediately as her full retirement benefit. Under the second option, she would receive $25,000 each year for 6 years plus a lump-sum payment of $57,000 at the end of the 6-year period.

Click here to view Exhibit 13B-1 and Exhibit 13B-2, to determine the appropriate discount factor(s) using tables.

Required:

1-a. Calculate the present value for the following assuming that the money can be invested at 12%.

1-b. If she can invest money at 12%, which option would you recommend that she accept?

Answer 1

Part 1 A

First option :

Present value of Lumpsum received immediately = 138000

Second option :

Present value of annuity = 25000*pvifa 12%,6yrs = 25000*4.111 = 102775

+ present value of Lumpsum paid at the end of year 6 = 57000*pvif 12%,6yrs = 57000*0.507 = 28899

Total present value of second option = 131674

Therefore,

First option (present value) = $138000

Second option (present value) = $131674

Part B

First option (because its present value is higher than second option