1. A couple want to save for their son\'s college expenses. Their son will enter

Question

1. A couple want to save for their son's college expenses. Their son will enter college 15 years from now. An annual amount of $50,000 in constant dollars will be required to support the son's college expenses for four years. Assume that these college payments will be made at the beginning of each school year. The future general inflation rate is estimated to be 6% per year and the market interest rate on the savings account will average 1%. a. What is the amount of the son's freshman-year expense in terms of actual dollars? b. What is the inflation free interest rate? c. What is the equivalent single-sum amount at the present time for these college expenses? d. What is the equal amount, in actual dollars the couple must save each year until son goes to college?

Explanation / Answer

soln :

1) $ 12,500

2) Inflation free interest rate = I+f+iXf = 16.6 % rounded to 17

3)

4) $ 3333.3

year Expenses Discount factor @ 17.00% Present value 15 12500 0.095 1187.5 16 12500 0.081 1012.5 17 12500 0.069 862.5 18 12500 0.059 737.5 3800

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