Time waits for no man, and it doesn’t wait for money either! That is why it is important to know about the present and future value of money.
The present value of money is quite easy to understand. A R100 in your wallet today is worth R100. But what if I offered to give you R115 in three years’ time in exchange for the R100 in your wallet now? Would that be a good deal?
This is where the future value of money comes in. Money in the future needs to be more than money in the present, because money in the present can be saved or invested and can therefore earn interest and grow into a larger amount. Money also loses buying-ability over time because of inflation.
So how do you figure out if a R115 in three years time is worth your R100 today or not?
Future Value Calculation
Let’s say you knew you could get an interest rate of 6% in a savings account. This means you could save your R100 for three years and it would grow by 6% per year.
(After this previous Wealthy Maths article on VAT, you know how to work with percentages – and this will come in handy for this article.)
If you saved your R100:
- After the first year, you will have R100 x 1.06 = R106
- After the second year, you will have R106 x 1.06 = 112.36
- After the third year, you will have R112.36 x 1.06 = R119.10
Tip – a shortcut to work with percentage growth for a number of years is to put the starting amount into a calculator, and then multiply by the growth and then press the equals key for every year of growth.
So, in the example above you would put the following into a calculator:
And this gives you the same 119.10 we calculated above.
So, would it be worth swapping your present value R100 for a future value of R115 in three years’ time? The answer is no, because your present day R100 could get you R119.10 in three years, and that’s a better outcome than the R115 you were promised.
As you can see, time is quite literally money. Money that you have now is not the same value as what it will be in the future.
Our friend Stealthy Wealth knows his way around maths. Luckily for us he also speaks human, which is why we asked him to explain the most important maths we need to know to be good at money. This is not your average maths class. Tune in once a month and turn into a money mathemagician.