Question

The Perpetual Life Insurance Co. is trying to sell you an investment policy that will pay you and your heirs $16,000 per year forever. Required: (a) If the required return on this investment is 9.50 percent, how much will you pay for the policy? (Do not include the dollar sign ($). Round your answer to 2 decimal places. (e.g., 32.16)) Payment for the policy $ (b) Suppose the Perpetual Life Insurance Co. told you the policy costs $344,000. At what interest rate would this be a fair deal? (Do not include the percent sign (%). Round your answer to 2 decimal places. (e.g., 32.16))

Answer 1

a.Present value of perpetuity=Annual cash flows/interest rate

=(16000/0.095)

=168,421.05(Approx).

b.Interest rate=Annual inflows/Present value

=(16000/344000)

=4.65(Approx).