Most state lotteries in the U.S. give Lottery winners of particularly large priz

Question

Most state lotteries in the U.S. give Lottery winners of particularly large prizes the option of taking the total prize as an annuity over several years, usually 10-20, or as a discounted lump sum now. Based on what we are studying this week and your prior knowledge and research, what are the various factors that should be considered in choosing either alternative if the goal is to maximize the total benefit to the Lottery winner? What are the risks associated with each alternative? The text presents a mathematical relationship between present value and future value. What does this relationship suggest to potential investors as far as setting important priorities? What is the most important determinant of meeting retirement goals?

Explanation / Answer

The activity is to select lump sum payment today or 10 to 20 years annuity in future. As a finance expert one should always select what is offered today even at some discount. The reason being uncertainty about the future.

There are some factors to be considered before selecting each option:

Risk associated with lump sum payment : Risk is losing better opportunity with annuities. Otherwise there is negligible risk associated with it.

Risk Associated with annuity:

As    PV = FV/(1+r%)n   this relationship shows that value of money increase over time as we invest it to get interest and becomes FV if we invest PV at some interest of r%.

Also one can interpret this relationship like this: if someone wants to get FV in future than he should invest PV at r% so that this amount grows to FV in future.

Now as a potential investor you can set you financial goals. Like if you want to purchase a house after 5 years. This is your financial goal. To meet this goal you need to invest regularly. So that amount of investment at present grows to some amount that you require in future to purchase property.

This is how this relationship helps potential investors.

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