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Amortization and Uniform Arithmetic Gradient

Amortization is a method of repaying debt with periodic payments that pay off both principal and interest. An amortization schedule shows the breakdown of each payment between interest and principal. The amortization formula calculates the periodic payment amount based on the principal, interest rate, and number of payments. Examples demonstrate calculating payments and constructing amortization schedules for loans amortized over several periods with equal installment payments.

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Cyril Jay G. Ortega
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© © All Rights Reserved
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401 views

Amortization and Uniform Arithmetic Gradient

Amortization is a method of repaying debt with periodic payments that pay off both principal and interest. An amortization schedule shows the breakdown of each payment between interest and principal. The amortization formula calculates the periodic payment amount based on the principal, interest rate, and number of payments. Examples demonstrate calculating payments and constructing amortization schedules for loans amortized over several periods with equal installment payments.

Uploaded by

Cyril Jay G. Ortega
Copyright
© © All Rights Reserved
Available Formats
Download as PDF, TXT or read online on Scribd
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Amortization

Amortization is any method of repaying a debt, the


principal and interest included, usually by a series of equal
payments at equal interval of time.

Amortization is an accounting technique used to


periodically lower the book value of a load or an intangible asset
over a set period of time.

An amortization schedule is used to reduce the current


balance on a loan through instalment payments.
Amortization Formula:

𝑖 1+𝑖 𝑛
𝐴=𝑃
1+𝑖 𝑛−1

where:
A = periodic payment amount
P = principal amount
i = interest rate
n = total number of payments
Example:
1. A debt of Php 5,000 with interest at 12% compounded semi-
annually is to be amortized by equal semi-annual payments over
the next 3 years, the first due in 6 months. Find the semi-annual
payments and construct an amortization schedule.

Given:
P = Php 5,000
i = 12% compounded semi-annually
n = 3 years

Required: A and amortization schedule


Solution:
CFD:

𝑖 1+𝑖 𝑛
𝐴=𝑃
1+𝑖 𝑛−1
0.12 0.12 3 2
1+ 2
2
= 𝑃𝑕𝑝 5,000
0.12 3 2
1+ −1
2
𝐴 = 𝑃𝑕𝑝 1,016.81
Period Outstanding Interest due at Payment Principal repaid
principal at the end of at end of period
beginning of period
period

1 Php 5,000 Php 300 Php 1,016.81 Php 716.81


2 Php 4,283.19 Php 256.99 Php 1,016.81 Php 759.82
3 Php 3,523.37 Php 211.40 Php 1,016.81 Php 805.41
4 Php 2,717.96 Php 163.08 Php 1,016.81 Php 853.73
5 Php 1,864.23 Php 111.85 Php 1,016.81 Php 904.96
6 Php 959.27 Php 57.56 Php 1,016.81 Php 959.25

Total: Php 1,100.88 Php 6,100.86 Php 4,999.98


A debt of Php 10,000 with interest at the rate of 20% compounded
semi-annually is to be amortized by 5 equal payments at the end of
each 6 months, the first payment is to be made after 3 years. Find
the semi-annual payment and construct an amortization schedule.

Given:
P = Php 10,000
i = 20%; compounded semi-annually
n=5

Required: A and amortization schedule


Solution:
CFD.

Solving for the future worth of P (Php 10,000) at period 5.


𝐹 =𝑃 1+𝑖 𝑛
5
0.2
= 𝑃𝑕𝑝 10,000 1 +
2
𝐹 = 𝑃𝑕𝑝 16,105.10
Solving for the semi-annual payment (A).

𝐿𝑒𝑡 𝐹 = 𝑃1

𝑖 1+𝑖 𝑛
𝐴 = 𝑃1
1+𝑖 𝑛−1
0.2 0.2 5
1+ 2
2
= 𝑃𝑕𝑝16,105.10
0.2 5
1+ −1
2
𝐴 = 𝑃𝑕𝑝 4,248.48
Period Outstanding Interest due at Payment Principal
principal at the end of repaid at end
beginning of period of period
period
1 Php 10,000 Php 1,000
2 Php 11,000 Php 1,100
3 Php 12,100 Php 1,210
4 Php 13,310 Php 1,331
5 Php 14,641 Php 1,464.10
6 Php 16,105.10 Php 1,610.51 Php 4,248.48 Php 2,637.97
7 Php 13,467.13 Php 1,346.71 Php 4,248.48 Php 2,901.77
8 Php 10,565.36 Php 1,056.54 Php 4,248.48 Php 3,191.94
9 Php 7,373.42 Php 737.34 Php 4,248.48 Php 3,511.14
10 Php 3,862.28 Php 386.23 Php 4,248.48 Php 3,862.25

Total: Php 11,242.43 Php 21,242.40 Php 16,105.07


Uniform Arithmetic
Gradient
An arithmetic gradient cash flow is one wherein the cash flow
changes (increases or decreases) by the same amount in each
cash flow period.

Present worth
𝐺 1+𝑖 𝑛−1 𝑛
𝑃= 𝑛
− 𝑛
𝑖 1+𝑖 𝑖 1+𝑖
where:
G = uniform value of increase

Equivalent Annual Amount


1 𝑛
𝐴=𝐺 −
𝑖 1+𝑖 𝑛−1
Example:
Find the present worth of all the cash disbursements using
gradient interest formulas if money is worth 15% per annum.
Annual cash disbursements increases by Php 1,000 every year
thereafter, until the end of the fourth year. The first cash
disbursement amounts to Php 5,000.

Given:
i = 15% G = Php 1,000
A = Php 5,000

Required: Ptotal
Solution:
CFD
𝑆𝑜𝑙𝑣𝑖𝑛𝑔 𝑃 𝑢𝑠𝑖𝑛𝑔 𝑎𝑟𝑖𝑡𝑕𝑚𝑒𝑡𝑖𝑐 𝑔𝑟𝑎𝑑𝑖𝑒𝑛𝑡:
𝐺 1+𝑖 𝑛−1 𝑛
𝑃= 𝑛
−
𝑖 1+𝑖 𝑖 1+𝑖 𝑛
𝑃𝑕𝑝 1,000 1 + 0.15 4 − 1 4
= 4
− 4
0.15 1 + 0.15 0.15 1 + 0.15
𝑃 = 𝑃𝑕𝑝 3,786.44

𝑆𝑜𝑙𝑣𝑖𝑛𝑔 𝑃1 𝑢𝑠𝑖𝑛𝑔 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑎𝑛𝑛𝑢𝑖𝑡𝑦:


1+𝑖 𝑛−1
𝑃1 = 𝐴
1 + 𝑖 𝑛𝑖
𝑃𝑕𝑝 5,000 1 + 0.15 4 −1
=
1 + 0.15 4 0.15
𝑃1 = 𝑃𝑕𝑝 14,274.89
𝑆𝑜𝑙𝑣𝑖𝑛𝑔 𝑓𝑜𝑟 𝑃𝑡𝑜𝑡𝑎𝑙 :

𝑃𝑡𝑜𝑡𝑎𝑙 = 𝑃 + 𝑃1
= 𝑃𝑕𝑝 3,786.44 + 𝑃𝑕𝑝 14,274.89
𝑃𝑡𝑜𝑡𝑎𝑙 = 𝑃𝑕𝑝 18,061.33
A firm considering the installation of an automatic data processing
unit to handle some of its accounting operations. Machines for that
purpose may be purchased for Php 20,000, or maybe leased for
Php 8,000 for the first year and Php 1,000 less every year now and
then until the end of the 4th year. If money is worth 15% per
annum, is it advisable to rent or buy the machine?

Given:
Cost of machine = Php 20,000
A = Php 8,000
G = Php 1,000
i = 15% per annum

Required: P
Solution:
CFD
𝑆𝑜𝑙𝑣𝑖𝑛𝑔 𝑃1 𝑢𝑠𝑖𝑛𝑔 𝑎𝑟𝑖𝑡𝑕𝑚𝑒𝑡𝑖𝑐 𝑔𝑟𝑎𝑑𝑖𝑒𝑛𝑡:
𝐺 1+𝑖 𝑛−1 𝑛
𝑃1 = 𝑛
−
𝑖 1+𝑖 𝑖 1+𝑖 𝑛
𝑃𝑕𝑝 1,000 1 + 0.15 4 − 1 4
= 4
− 4
0.15 1 + 0.15 0.15 1 + 0.15
𝑃1 = 𝑃𝑕𝑝 3,786.44

𝑆𝑜𝑙𝑣𝑖𝑛𝑔 𝑃 𝑢𝑠𝑖𝑛𝑔 𝑜𝑟𝑑𝑖𝑛𝑎𝑟𝑦 𝑎𝑛𝑛𝑢𝑖𝑡𝑦:


1+𝑖 𝑛−1
𝑃=𝐴
1 + 𝑖 𝑛𝑖
𝑃𝑕𝑝 8,000 1 + 0.15 4 −1
=
1 + 0.15 4 0.15
𝑃 = 𝑃𝑕𝑝 22,839.83
𝑆𝑜𝑙𝑣𝑖𝑛𝑔 𝑓𝑜𝑟 𝑃𝑡𝑜𝑡𝑎𝑙 :

𝑃𝑡𝑜𝑡𝑎𝑙 = 𝑃 − 𝑃1
= 𝑃𝑕𝑝 22,839.83 − 𝑃𝑕𝑝 3,786.44
𝑃𝑡𝑜𝑡𝑎𝑙 = 𝑃𝑕𝑝 19,053.39

𝑌𝑒𝑠, 𝑖𝑡 𝑖𝑠 𝑎𝑑𝑣𝑖𝑠𝑎𝑏𝑙𝑒 𝑡𝑜 𝑟𝑒𝑛𝑡 𝑡𝑕𝑒 𝑚𝑎𝑐𝑕𝑖𝑛𝑒


𝑟𝑎𝑡𝑕𝑒𝑟 𝑡𝑕𝑎𝑛 𝑏𝑢𝑦𝑖𝑛𝑔 𝑖𝑡.

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