Austin's life is changing dramatically. He and his wife Kate recently bought a duplex apartment in Lafayette
Question:
Austin's life is changing dramatically. He and his wife Kate recently bought a duplex apartment in Lafayette and are expecting their third child. These new responsibilities have prompted Austin to think about some serious issues, including life insurance.
10 years ago, Austin sold his drums and purchased an insurance policy that provides a death benefit of $400,000.
This policy is paid in full and will remain in effect for the rest of Austin's life. Alternately, Austin can cash in the policy and receive an immediate payoff of $60,000 from the insurance company.
10 years ago, $400,000 seemed like it was enough. Now, he's not so sure. Austin is investigating a different insurance product hat would provide a death benefit of $3,500,000 but he and Kate would need to make ongoing monthly payments.
The table shows the annual premiums for the new policy over the next 10 years - Premium
Year Due
1 $4,230
2 $4,570
3 $4,890
4 $5,160
5 $5,300
6 $5,580
7 $5,950
8 $6,180
9 $6,600
10 $7,160
To pay the premiums for the new policy, Austin had an idea, the first good idea of his life. He could cash out the existing policy, take the $60,000 and invest it. Using the after tax proceeds from the investment, he could then pay the premium on the new policy.
However, to see if this is possible, he wants to understand the minimum rate of return that he would have to earn from this investment to be able to cover the after-tax Premium payments.
His tax rate is 28%.
a. Calculate the Investment earnings for each of the next 10 years, if the Annual Return is 15%.
The Annual interest is compounded quarterly.
Be sure to factor in that Austin would owe taxes on these earnings.
The formula for the annual interest earned, if it's compounded quarterly is:
= Beginning Balance *(1+Interest Rate / 4)^4 - Beginning Balance.
Factor in starting balance, investment earnings Pre-tax, tax costs, investment earnings net, premium due, and ending balance.
b. Using Solver, what's the minimum Annual return that Austin would need to ensure he can cover his premium payments every single year using after-tax earnings from the investment of the 60K?
Use GRG Non-Linear.
Expert Answer:
Solution A Basic understanding is that After Tax Income should cover the Premium Amount it means Aft... View the full answer
