Question

You were injured on the job and your company offers you one of three settlement options. You could choose to take a $400,000 cash settlement immediately or $52,500 a year for the next 10 years or $525,000 in 10 years, which would you choose if the discount rate were 5%?

Answer 1

Discount rate = 5%

Settlement 1:

$400,000 cash immediately

Present value = $400,000

Settlement 2:

$52,500 a year for next 10 years

Present value = $52,500/1.05 + $52,500/1.05^2 + ... + $52,500/1.05^9 + $52,500/1.05^10
Present value = $52,500 * (1 - (1/1.05)^10) / 0.05
Present value = $52,500 * 7.721735
Present value = $405,391.09

Settlement 3:

$525,000 in 10 years

Present value = $525,000/1.05^10
Present value = $525,000 * 0.613913
Present value = $322,304.33

So, you should select Settlement 2 as its present value is highest.