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Fundamentals of Financial Manageme...

14th Edition
Eugene F. Brigham + 1 other
ISBN: 9781285867977

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BuyFindarrow_forward

Fundamentals of Financial Manageme...

14th Edition
Eugene F. Brigham + 1 other
ISBN: 9781285867977
Textbook Problem

LOAN AMORTIZATION AND EAR You want to buy a car. and a local bank will lend you $20,000. The loan will be fully amortized over 5 years (60 months), and the nominal interest rate will be 12% with interest paid monthly. What will be the monthly loan payment? What will be the loan’s EAR?

Summary Introduction

To determine: The monthly loan payment and the effective annual rate.

Amortized Loans: The amortized loans are the loans, which are paid in equal installments and in fixed intervals. The installments, which are paid contains both the amount of principal and the amount of interest. Some examples of amortized loans are- automobile loans, business loans, and home loans.

Effective Annual Rate: The effective annual rate is the rate at which a loan or investment is actually borrowed or earned. The effective annual rate is used to compare different financial instruments. This rate is also called as the effective rate or the effective interest rate.

Explanation

Solution:

Given,

The amount of loan is $20,000.

The rate of interest is 12%.

The time period is 5 years and hence, the number of periods is 60.

Calculate the amount to be paid monthly.

The formula to calculate the monthly payment is,

C=PV×I1(1+I)N

Where,

  • PV is the present value.
  • C is the monthly payment.
  • I is the interest rate.
  • N is the time period.

Substitute $20,000 for PV, 60 for N, and 12% for I.

C=$20,000×0.12121(1+0.1212)60=$2000

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