Question

You are the beneficiary of a life insurance policy. The insurance company offers two options for receiving the proceeds. A lump sum of $50,000 today or payments of $550 a month for the next ten years. If you can earn 6% annually, compounded monthly, which option should you take and why?

Answer 1

Take : A lump sum of $50,000

Reason : Gives a higher present value than the payments of $550 a month for the next ten years option.

Step-by-step explanation:

We have to compare apples with apples here. A dollar today is worth more than a dollar tomorrow.

So, i will compare Present value (PV) amounts of the given option. The option giving the highest Present Value is the Best Option.

Option 1 - A lump sum of $50,000

Present Value = $50,000 (given)

Option 2 - payments of $550 a month for the next ten years

Present Value = $50,000 (to be determined)

Pmt = - $550

P/yr = 12

N = 10 × 12 = 120

i = 6%

Fv = $0

Pv = ?

Using a Financial Calculator to enter the values as above, the PV is $49,540.40

Conclusion :

The Present Value for option 1 (A lump sum of $50,000), is greater and i would choose this one over option 2 ( payments of $550 a month for the next ten years)