Effective interest rate - Haaga-Helia ammattikorkeakoulu
Effective interest rate
Example 1.
Loan = 10 000 €. Interest rate = 3,6%. Loan is paid with equal monthly payments in 2 years.
Bank charges 400 € starting fee, plus 3 € office fee for every payment.
Let’s calculate the equal payment: [pic] ; n = 2 × 12 = 24
[pic] + 3 € = 435,47 €
Cash value of the loan = 10 000 € - 400 € = 9 600 €
From customers view: Loan = 9 600 € and the equal payment = 435,47 €
The customer is interested in the real (=effective) interest rate of the loan. Obviously the rate is higher, than 3,6%. Let’s check if the effective rate is higher or lower than 6 %.
We have to calculate an equal monthly payment for 9 600 € loan with 6 % annual interest rate.
[pic] [pic] = 425,48 €
If the actual (equal) payment was 425,48 €, it would mean, that the effective rate of the loan was 6 %. Because the payment (435,47 €) is even higher, it tells us, that the effective annual rate of the loan is HIGHER than 6%.
We could go on with testing if the effective rate is higher than 7 %, 8% and so on…
[Excel: eff. rate = 8,62 %]
Example 2.
A student loans 200 € to his friend. The friend pays 5 x 45 € with 2 weeks intervals (=14 days). Lets estimate the effective annual interest rate of the loan.
Suppose the effective annual rate = i
If we discount all five payments back in to the moment when the loan was taken, we should match exactly to total of 200 €. We can write an equation for solving i:
(Note, the simple interest method is applied)
PV = [pic]
We could test the equation with i = 10% = 0,1: PV = 222,45 € (> 200 €)
Because the present value is greater than 200 € we did not discount strongly enough, which tells us that 10% is not high rate enough.
We can make few more tries:
|rate (i) |Present value |
|20 % |219,96 € |
|50 % |212,90 € |
|100 % |202,26 € |
|110 % |200,28 € |
Now we can tell, that the effective annual rate of the loan is very close to 110 %.
................
................
In order to avoid copyright disputes, this page is only a partial summary.
To fulfill the demand for quickly locating and searching documents.
It is intelligent file search solution for home and business.
Related download
- when must a qualified lender disclose the effective
- 1 purdue university
- nominal and effective interest rates
- effective interest rate haaga helia ammattikorkeakoulu
- multistate initial interest adjustable rate note 1 year
- work these if you did not get 1a correct
- how should a qualified lender determine the effective
- an effective method for teaching and understanding
Related searches
- effective interest rate calculator mortgage
- annual effective interest rate calculator
- effective interest rate method example
- effective interest rate compounded quarterly
- effective interest rate excel formula
- effective interest rate calculator excel
- calculate effective interest rate excel
- effective interest rate on mortgage
- effective interest rate in excel
- effective interest rate vs apr
- effective interest rate amortization calculator
- effective interest rate with pmi