Question

What is an ordinary annuity? An annuity due? And a deferred annuity? Be sure to discuss when the stream of payments will occur.As an investor, if you had a choice of daily, monthly, or quarterly compounding, which would you choose? Why?

The interest on your home mortgage is tax deductible. Why are the early years of the mortgage more helpful in reducing taxes than in the later years?

Answer 1

Ordinary annuity is where in the instalments are paid at the end of each year and in an annuity due are paid at the beginning of each year. A deferred annuity is where in the instalments are paid after a gap of certain period i.e. the instalments not do start off immediately.

The higher the compounding periods, greater is the value of the investment. Hence, monthly compounding must be chosen.

In the early years of loan repayment majority of the component of the amount repaid is interest and hence, it is more helpful in reducing taxes. As the years increase in the interest component decreases and principal repaid increases.