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Debt issued for $1,000. Is redeemable at $1,250, term is 5 years and interest paid is at 5.9%. Solution says total finance cost is $545 – agreed but how did this translate into effective rate of interest of 10%? I thot i knew this topic, but now i am confused. Pls simplify.
1000 + 10% = 1100
1100 – 59 = 1041
1041 + 10% = 1145
1145 – (1041*5.9% ) = ?
? + 10% =
Keep going like this and you should find the answer
No, the question is how they derived the 10%, it was not given in the question, i understand the application. But where it is not given, how can i derive it from the question given that finance cost is £545 and interest is paid at 5.9%. Thank you.
Well, calculating the payment “profile” continuing on from my first response, the figure outstanding at the end of 5 years is $1,250 using 10% as the effective interest rate. But you say that 10% is not mentioned in the question! Would you please check again? Steve Scott will almost certainly give you the effective rate – look at past exam questions as confirmation.
I’m sure that there must be a formula for the calculation of this 10%, but I’m really not in the mood to sit down, scratch my head, and work out that formula.
Sorry 🙁
Thank you for this response, it means i am not expected to derive it under exam conditions. The solution just said “the effective rate of interest on the debt can be calculated to be 10% pa” so i thot i was supposed to know how to derive it. Past questions give the effective rate. If you are not in the mood, i can never, ever be in the the mood! Cheers.
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