Question

Some friends of yours have just had a child. Thinking ahead, and realizing the power of compound interest, they are considering investing for their child’s college education, which will begin in 18 years. Assume that the cost of a college education today is $125,000.Also assume there is no inflationand no tax on interest income used to pay college tuition and expenses.(LO2)
a. If the interest rate is 5 percent, how much money will your friends need to put into their savings account today to have $125,000 in 18 years?
b. What if the interest rate were 10 percent?
c. The chance that the price of a college education will be the same 18 years from now as it is today seems remote. Assuming that the price will rise 3 percent per year, and that today’s interest rate is 8 percent, what will your friend’s investment need to be?
d. Return to part (a), the case with a 5 percent interest rate and no inflation. Assume that your friends don’t have enough financial resources to make the entire investment at the beginning. Instead, they think they will be able to split their investment into two equal parts, one invested immediately and the second invested in five years. Describe how you would compute the required size of the two equal investments, made five years apart.



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  • CreatedOctober 02, 2014
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