Question

Avery wants to buy a car and has a choice between two different banks. One bank is offering a simple interest rate of 3.2% and the other bank is offering a rate of 3% compounded annually. If Avery decides to deposit $7,000 for 5 years, which bank would be the better deal? 1. a simple interest rate of 3.2% 2. a compound interest rate of 3%

Answer 1

Answer: a simple interest rate of 3.2% will be the better deal.

Explanation:

Hi, to answer this question we have to apply the compounded interest formula:

A = P (1 + r/n) nt

Where:

A = Future value of investment (principal + interest)

P = Principal Amount

r = Nominal Interest Rate (decimal form, 3/100= 0.03)

n= number of compounding periods in each year (1)

Replacing with the values given

A = 7000 (1+0.03/1)^(1x5)

A = 7000( 1.03)^5 = $8,114.92

For simple interest:

I = p x r x t

Where:

I = interest

Replacing with the values given:

I = 7000 x (3.2/100) x 5 = $1,120

Adding the principal amount: 7000+1120 = $8,120

Since 8,120 (simple) >8,114.92(compound)

a simple interest rate of 3.2% will be the better deal.