Question

A borrower has two alternatives for a loan:

(1) issue a $420,000, 90-day, 4% note or
(2) issue a $420,000, 90-day note that the creditor discounts at 4%. Assume a 360-day year. This information has been collected in the Microsoft Excel Online file. Open the spreadsheet, perform the required analysis, and input your answers in the questions below. Open spreadsheet Calculate the amount of the interest expense for each option. Round your answer to the nearest dollar. $ for each alternative. Determine the proceeds received by the borrower in each alternative. Round your answers to the nearest dollar.

(1) $420,000, 90-day, 4% interest-bearing note: $
(2) $420,000, 90-day note discounted at 4%: $ Alternative is more favorable to the borrower because the borrower .

Answer 1

Answer:

The second alternative is the best option for the borrower as it provides the less amount of interest expense.

Explanation:

We solve for the interest expense on each alternative and pick the lowest:

(1) common note.

$Principal \: (1+ r)^{time} = Amount$

Principal 420,000.00

time 0.25

rate 0.04000

$420000 \: (1+ 0.04)^{0.25} = Amount$

Amount 424,138.43

Interest expense:   4,138.43‬

(2) Discounted note:

$\frac{Maturity}{(1 + rate)^{time} } = PV$  

Maturity  $420,000.00

time  0.25

rate  0.04000

$\frac{420000}{(1 + 0.04)^{0.25} } = PV$  

PV   415,901.9490

THe borrower recieve this amount and then, return 420,000

Interest over time  4,098.05099