The formula to calculate an ordinary annuity (OA) is:
\[ \text{OA} = r \times \left( \frac{\text{PVA}}{1 - (1 + r)^{-n}} \right) \]
Where:
An ordinary annuity is a financial concept that involves regular and equal payments made or received at the end of each period over a specified duration. It is an essential tool in financial planning and decision-making because it helps individuals and businesses accurately calculate and manage cash flows over time.
The significance of an ordinary annuity lies in its ability to simplify complex financial situations and enable effective financial planning. By providing a structured and predictable series of payments, it allows individuals to efficiently manage their income and expenses, ensuring stability and long-term financial security. For businesses, ordinary annuities help in budgeting, investment planning, and debt management.
One key advantage of an ordinary annuity is its role in loan amortization. When individuals or businesses take out loans, they often must repay the borrowed amount over a certain period. Using ordinary annuity calculations, they can determine the regular payment amount required to fully repay the loan, including interest, by the end of the loan term.
Let's assume the following values:
Step 1: Calculate the denominator:
\[ 1 - (1 + 0.05)^{-10} \approx 0.386 \]
Step 2: Divide the present value by the denominator:
\[ \frac{10000}{0.386} \approx 25906.74 \]
Step 3: Multiply by the interest rate:
\[ 0.05 \times 25906.74 \approx 1295.34 \]
Therefore, the ordinary annuity is approximately $1295.34.