Definition of Ordinary Annuity
Ordinary annuity is a periodic cash flow stream that comes at the end of each period. Assume that you lease a house from a bank that has a 15 years installment plan with the first installment starting one year from now (at the end of period). The Installment amount is set to be $350,000 a year and the interest rate implicit is 18%. This is an ordinary annuity.
To find out the present value of such an annuity we use the present value interest factor of annuity also called PVIFA. As the annuity associated with the house lease is an ordinary annuity the formula for calculating PVIFA is
To find out the current worth of the house based on the installment plan we will simply multiply the annuity amount with PVIFA.
PV = Annuity x PVIFA
PV = $350,000 x 5.091577 = $1,782,052
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