Time value of money is an interesting subject to study and learn more about. It helps you in addressing problems like taking $100k right now, or agreeing or taking $1000 per month for the rest of your life.
You can learn about the Net Present Value (NPV) concept to calculate the present value of an asset, and address problems like the one we’ve mentioned before. These calculations usually include comparing the money you’ll receive in future, vs the money that you will receive right now. These calculations also include things like time and interest rate into the equation. This is all studied under the concept of the Time Value Of Money, which explain the effect of time on the total value of monetary value of tings.
Net Present Value
Coming back to the first question, would you take $100k today, or $1000 per month for the rest of your life?
While everyone will answer differently according to their current needs, a net present value calculation will actually provide you with a reason on why one of them is better and the other isn’t. This concept includes calculating the Net Present Value, Present Value, and Future Value.
- Net present value helps you evaluate a lump sum of future payments that you can get combined right now. This is usually applicable in lottery payouts.
- With present value, you can calculate the present value of an amount of money that you’ll get in the future.
- Future value calculation tells you the future value of an amount of money that you have right now.
For example, if you’re allowed to choose from $100k now vs $130k a years from now, and the interest fate id 30%, there’ll be no difference between the two amounts, and you should get that money right now.