Two alternatives are being considered to finance the acquisition of a new vehicl
ID: 2668490 • Letter: T
Question
Two alternatives are being considered to finance the acquisition of a new vehicle. The purchase price is assumed $20,000 for all scenarios. (no discount for "cash" purchase). The investor's minimum rate of return is a nominal 10.0% compounded monthly.Alternative A is to accept the dealer finance package which includes a nominal 6.5% interest rate based on "add on" or "flat" compounding. A down payment equal to 20% of purchase price is required and the loan payments are spread out uniformly over months 1-36.
Alternative B is to finance the acquisition through a bank at an annual percentage rate of 9% compounded monthly (normal compound interest). A down payment of 20% is required and the monthly loan payments are uniform over the months 1 through 36.
1) Based on the monthly payments, which alternative would you select?
Explanation / Answer
A
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A
Total cost = $20,000 Flat interest rate = 10% Flat interest per year = 20000 *10% = $2000 Interest per month = 2000 / 12 = 166.67 Monthly principle repayment = 20000 / 36 = 555.55 Total payment per month = Principle + Interest = 555.55 + 166.67 = $722.22 Total repayment = 722.22 * 36 = $26,000