Time Value of Money

The Time Value of Money concept is not a new one. It dates back hundreds of years. The common phrase used to describe this concept is "A dollar today is worth more than a dollar a year from now." In the book, "Foundations of Finance", they provide an example of how Benjamin Franklin not only understood, but also implemented the concept. Over two hundred years ago, he invested $1,000 each in the states of Boston and Philadelphia and requested it be lent to apprentices at the going interest rate during that time period. It's amazing how the money compounded and resulted in an increase of 3 million for Boston and 2 million for Philadelphia. Benjamin Franklin in his infinite wisdom was able to foresee the power of compounding interest and future value over time.

To understand the Time Value of Money you must first recognize some of the basic calculation methods. Compound interest is when interest paid on an investment during the first period is added to the principal. This process continues as additional periods are added on. Future value is the amount to which your investment will grow throughout the years. Simple interest is when you earn interest on your initial investment. Present value refers to the value of money in today's dollars of future payment discounted back to present at the required rate of returns.

The earlier generations in our family always kept money hidden under the mattress for safe keeping. They were afraid to place their trust in banks. Unfortunately, this mindset kept them from investing their money and making a profit, which in the end still cost them money. In some communities there are still people who feel this way because they have not been educated on all of the ways to make your money grow for you.

People also lose money by taking too long to pay off their credit cards. It's a lot less painful on our pockets to pay the minimum payment due in the short term. Unfortunately, we are paying more in interest in the long term. It the same scenario when paying our mortgages, we can save more money by doubling up the payments and owning our homes sooner.

I'm realizing more everyday how the decisions we make regarding our money today affects how much we'll have tomorrow. When our eleven year old son was born, we decided to open a college investment account so we could save money in advance for his college education. Learning about the time value of money solidifies we have made the right decision.

After taking this class I'm reconsidering using a student loan and instead attempting to pay for my college education out of pocket. This class has shed light on how much money I'll being paying in interest alone once I complete my education and the six month grace period has ended.