Final answer:
To perform time value money calculations, the three essential factors are the principal amount, the interest rate, and the time period of the investment or loan. Using these, one can calculate the future value of the money.
Step-by-step explanation:
When making time value money calculations on an investment or on a borrowing, three main factors need to be known by the investor or lender:
- The principal amount, which is the initial amount of money invested or borrowed.
- The interest rate, which dictates how much extra money will be earned or paid over time due to the time value of money.
- The time period, which signifies the duration over which the money is invested or borrowed.
An example of this can be seen with a $3,000 bond, issued at 8% interest. Whether for saving or borrowing, the present value of the bond at the time of issue is equal to the money exchanged—at issuance, it is $3,000. This initial calculation establishes that the present value for both the borrower and the lender is the same. Future value calculations, using the formula Future Value = Principal × (1 + interest rate)time, allow us to determine the amount that the original investment will grow to after factoring in compound interest over time.