Matt and Debra Pearson live in an upscale neighborhood in Orem, Utah. Matt is a
ID: 2777588 • Letter: M
Question
Matt and Debra Pearson live in an upscale neighborhood in Orem, Utah. Matt is a partner in the family owned automotive painting business. Debra stays home with their child, Brady, who is age 5.
After visiting with their financial planner, the couple became concerned that they were spending too much and not putting enough funds aside for Brady’s future educational needs. Matt earns $95,000 per year, but with the rising costs of education, they are concerned.
Matt is an alumni of Stanford University, a private school with tuition and book expenses of approximately $14,000 per year. Debra graduated from Utah Valley University. The expense for tuition and books there is estimated at about $7,500 per year. When Brady turns 18, the couple wishes to send him to one of these two exceptional universities. They have a slight preference for Utah Valley University. The problem, however, is that with the rate at which tuition is increasing the Pearson’s are not sure they can save enough money and they have decided they do not want to borrow to pay for Brady’s education.
Assume the tuition at both universities will increase at an annual rate of 5% from now until Brady starts college. Living expenses are currently estimated at $8,000 per year at both schools. This expense is expected to grow at only 3% per year. Further assume that Pearson’s can deposit their money into a growth oriented mutual fund at the Salt Lake City based mutual fund company, Wasatch Advisors which has historically earned 12% per annum.
The couple wishes to save by having a pre-determined amount automatically withdrawn form their bank account at the end each month. They plan to contribute from now until Brady starts college. When Brady starts college, at the beginning of his freshman year, they will stop making contributions. They want to have enough in their account to cover all four years of college expenses when Brady starts college. They will make annual withdrawals from the account to cover both tuition and living expenses for Brady at the beginning of his freshman, sophomore, junior, and senior years. When the withdrawal for the senior year is made the account balance will be zero.
Complete a thorough analysis and write a professional letter to the Pearson’s (who don’t understand finance) explaining the analysis you performed why you performed it, and the results and conclusions. In the letter and attached schedules provide information that answers the following questions.
What will be the tuition expense, living expense, and total expense for each of the four years that Brady will attend college? Provide the information for each University.
What amount will be needed in the account when Brady starts his freshman year if he attends Stanford? What amount if he attends UVU?
How much money will Matt and Debra have to deposit at the end of each month to allow Brady to attend Stanford? How much money will have to be deposited per month to allow Brady to attend Utah Valley University? Assume that Matt and Debra stop making deposits when Brady starts college.
The Pearson’s are concerned that given the current market performance the mutual fund will only earn 9% per year. If the return is only 9% how much will be needed in the account when Brady starts college and how much will have to be deposited per month for Brady to have sufficient funds to attend each school?
Explanation / Answer
Q1. What will be the tuition expense, living expense, and total expense for each of the four years that Brady will attend college? Provide the information for each University.
Answer-1 By making the calculation for Stanfor University:
we first take the tution fee expenses when Brady is 5 years old as $14000 and living expenses $8000 and made them grow for 17 years at 5% and 3% per annum respectively.
For making the calculation we use future value formula.
FV = PV (1+ R%)n
here we calculate FV for each year separately by taking 5% as growth rate R% for tution fees and 3% rate of growth R% for living expanses.
So by making calculation on excel we get:
So the above tables provide the information related to tution fees and living expenses for Brady education for four years stated as freshman, sophomore, Junior, Senior.
Q2. What amount will be needed in the account when Brady starts his freshman year if he attends Stanford? What amount if he attends UVU?
For stanford the amount is = $38147
For Utah University the amount is = $25891
Q3. How much money will Matt and Debra have to deposit at the end of each month to allow Brady to attend Stanford? How much money will have to be deposited per month to allow Brady to attend Utah Valley University? Assume that Matt and Debra stop making deposits when Brady starts college.
Stanford University:
For making this calculation first we have to calculate the present value of total expenses for those four years like freshman, sophomore, junior and senior.
the present value is $122972.16 for
and then find the monthly instalemet by using PMT function taking 12%/12 as interest and number of periods as 12*13 = 156.
The answer will be
Monthly payments = $330.38
For Utah University:
For making this calculation first we have to calculate the present value of total expenses for those four years like freshman, sophomore, junior and senior.
the present value is $83133.65
and then find the monthly instalemet by using PMT function taking 12%/12 as interest and number of periods as 12*13 = 156.
The answer will be
Monthly payments = $223.35
Now again the calculations can be made by replacing rate 12% by 9%.
Standard University Brady Age Tution Fees Living Expenses Total Expenses 5 $14,000 $8,000 $22,000 6 $14,700.00 $8,240.00 $22,940 7 $15,435.00 $8,487.20 $23,922 8 $16,206.75 $8,741.82 $24,949 9 $17,017.09 $9,004.07 $26,021 10 $17,867.94 $9,274.19 $27,142 11 $18,761.34 $9,552.42 $28,314 12 $19,699.41 $9,838.99 $29,538 13 $20,684.38 $10,134.16 $30,819 14 $21,718.60 $10,438.19 $32,157 15 $22,804.52 $10,751.33 $33,556 16 $23,944.75 $11,073.87 $35,019 17 $25,141.99 $11,406.09 $36,548 Freshman 18 $26,399.09 $11,748.27 $38,147 Sophomore 19 $27,719.04 $12,100.72 $39,820 Junior 20 $29,104.99 $12,463.74 $41,569 Senior 21 $30,560.24 $12,837.65 $43,398