Future Value (FV)
What it is:
How it works/Example:
There are two ways of calculating future value: simple annual interest and annual compound interest.
Future value with simple interest is calculated in the following manner:
Future Value = x [1 + (Interest Rate x Number of Years)]
For example, Bob invests $1,000 for five years with an interest rate of 10%. The future value would be $1,500.
Future Value = $1,000 x [1 + (0.1 x 5)]
Future Value = $1,000 x 1.5
Future Value = $1,500
Future value with compounded interest is calculated in the following manner:
Future Value = Present Value x [(1 + Interest Rate) Number of Years]
For example, John invests $1,000 for five years with an interest rate of 10%, compounded annually. The future value of John's would be $1,610.51.
Future Value = $1,000 x [(1 + 0.1)5]
Future Value = $1,000 x 1.61051
Future Value = $1,610.51
It is important to remember that simple interest is always based on the present value, whereas compounded interest means that the present value grows exponentially each year.