Question

The Maybe Pay Life Insurance Co. is trying to sell you an investment policy that will pay you and your heirs $26,000 per year forever. Suppose a sales associate told you the policy costs $471,000. At what interest rate would this be a fair deal?

Answer 1

Answer: 5.52%

Explanation:

Perpetuity value (V) = $471, 000

Perpetuity cashflow (C) = $26,000

Interest rate(r) =?

Perpetuity value (PV) is related to perpetuity cashflow(C) and interest rate(r) by the equation :

PV = C ÷ r

Therefore,

Interest rate = perpetuity cashflow ÷ perpetuity value

Interest rate = $26,000 ÷ $471,000 = 0.0552

Interest rate = 0.0552 or 5.52%