Simple Interest

and Discount
5.1 Interest on

Borrowing
A person or an institution in need of money,
called Borrower, can turn to another person or
a financial institution, called the lender, for
financial help. In the process, a debt is created
at the same time an income is created. This
happens when the borrower pays an additional
sum for using the borrowed money. The
additional amount of money charged for the
use of borrowed money for a certain period of
time is called Interest.
The interest is obtained by multiplying three
important factors – the principal, the rate of
interest or interest rate, and the time. The
principal is the money borrowed or the capital
invested by a lender. A rate of interest is the
cost stated as a percent of the amount
borrowed per period of time, usually one year.
The time is the period during which the
principal is used and is expressed in years.
If the basis for computation of the interest is the
original principal for the whole term of the
transaction, the interest paid at the end of the term
is called simple interest (Note: The word term
refers to the length of time allowed for a debtor to
settle his obligation).
The simple interest in a principal at a given rate and
time is expressed as
I = Prt
Where I is the simple interest in pesos, P is the
principal, r is the rate of interest, and t is the time.
Example 1
What is the simple interest on ₱3,500 at 9 ½%

for 1 ½ years?

Solution:
If P = ₱3,500, r = 0.095, and t = 1.5, then
I = Prt
= (3,500) (0.095) (1.5)
I = ₱498.75
5.2 Simple Interest

for Fraction of a

Year
In practice, simple interest is rarely used
for loans of more than a year. Because of
this, time may be given in months or even
in days. Since time should be stated in
years, it is necessary to express the
months or the days as fractional part of a
year. Thus, if time is given in months,
 5.3 Finding the

Principal, Rate, and

Time
There may be occasions when there is
a need to solve for the principal, the
time, or the rate. By modifying the
simple interest formula I=Prt, the
following formulas can be derived:
5.4 Present Value and

Final Amount
At the end of the term for borrowed money, the
sum of the principal and the interest on it,
called the final amount, is returned by the
borrower to the lender.

The present value P of a given amount F due in t

years, is that principal which if invested now at
an interest rate, will give the final amount in t
years. The final amount can also be referred to
as future value of the principal.
5.5 Exact Time and

Approximate Time
It is a common practice to state term of the loan but
there may be instances when two dates are given
instead od the time. Two important dates in a loan
transaction are the date of the loan and the date of
payment. When these dates are known, the term can
be determined by computing the approximate time or
the exact time.

To compute the approximate time, subtract the date of

the loan from the date of payment as to year, month,
and day, assuming that one month equals 30 days.
Observe that among the four, the ordinary simple interest using
the exact time yields the highest interest. Because of this, banks
and lending institutions use this type of computing interest
commonly called as banker’s rule. Again, in solving problems
involving simple interest where two transaction dates are given,
unless it is specified, use the banker’s rule; that is, use the
ordinary interest for exact time.

Take note: In finding the exact time,

1. If the given year happens to be a leap year, add one day to

February,
2. If two dates are given without accompanying years, it is
understood that they are of the same year.
5.6 Accumulating and

Discounting at Simple

Interest Rate
To accumulate a sum means to find its

amount or future value at some future date.

Thus, to accumulate the present value P, at

interest rate r, for the time t, use the following

formula

F=P(1+rt)

Where (1+rt) is called the accumulating factor

and F is the accumulated amount.

5.7 Bank Discount
In transactions involving simple
interest, interest is charged on the
present value and is added to the
amount to be paid back. In some
cases, interest is charged on the final
amount and is therefore deducted
from the amount borrowed.
An interest charged on the final amount is called an
interest-in-advance. This can also be referred to as
bank discount because this method of putting interest
on money borrowed has a widespread acceptance by
banks. If a sum of money is borrowed, the borrower
receives the amount minus the interest charged in
advance. The final amount is actually the sum being
borrowed, and the remaining sum received by the
borrower is called the proceeds. In effect, the lender
lends the proceeds P and collects the amount
borrowed F, thereby earning an interest-in-advance.
5.8 Accumulating and

Discounting at Discount

Rate
If a sum can be accumulated and discounted at interest
rate, it can also be accumulated and discounted at
discount rate.
To accumulate a sum at a discount rate is actually
finding the amount F, which is the same as the amount
borrowed at the beginning of the term of a loan
transaction, o, the same amount paid at the end of the
transaction.
On the other hand, to discount an amount at a
discount rate is to find the present value P which is
actually the same as the proceeds obtained on the day
the loan is granted.
5.9 Equivalent Rates
Consider the following: ₱9,000 at 8 1/2% simple
interest for 2 years will produce F=₱10,530. If the
interest, ₱1,530, is substituted to d=D/Ft,d=7.25%. Now,
if ₱9,000 is accumulated at 7.265% discount rate for 2
years, F=₱10,530. Take note that at r=8 1/2% and at
d=7.265%, ₱9,000 is accumulated to the same final
amount ₱10,530 in 2 years. That is because the two
rates are equivalent rates. It is, however, important to
note that r=8 1/2% and d=7.265% are equivalent rates
only for t=2 and not for some other length of time.
Equivalent rates are two different rates
which produce the same final amount F for
the same present value P for the same
length of time t.

For the purpose of comparison, there is a

need to know the interest rate equivalent to
a given discount rate and vice versa.
 5.10 Comparison of

Simple Interest Rate and

Discount Rate
As shown in the previous
discussions, if one borrows a
certain sum of money, the
interest charged in t years is a
percentage on either the present
value P or the final amount F.
At an interest rate r, the creditor lends the principal P and
collects the final amount F earning an interest compound on
P. At discount rate d, the creditor actually lends the proceeds
P and collects the amount F earning an interest compound of
F. In effect, the discount rate gives the creditor a larger
income than does an equal interest rate. Suppose as man
borrows ₱12,000 for 1 1/2 years. At r=0.09, the man pays an
interest of ₱1,620, and at d=0.09, the man also pays an
interest of ₱1,620. But, at r=9%, the borrower pays ₱1,620 for
the ₱12,000 he receives, while at d=9%, the borrower pays an
interest of ₱1,620 for the ₱10,389 he receives. This explains
why discount rate prevails over interest rate in the money
lending market.
5.11 Discounting

Promisorry Notes
Simple interests and discounts are put into
application when discounting a promissory note.

A promissory note is a written promise made by a

person to another person to pay a certain sum of
money at a specific future date. If the interest rate is
stated on the note, then it is an interest-bearing note.
For a non-interest-bearing note, the interest, if there is
any, has been added to the original principal and is
not stated on the note anymore.
A promissory note has the following features:

1. Date of the note. It is the date when the note is made.

2. Term of the note. This is the length of time from the
date of the note to the maturity date and is usually
given in days or in months. The maturity date (also
called due date) is oftentimes not stated on the note but
is calculated from the date of the note up to the end of
the term. If the term is given in days, use exact time and
if in months, use a 12-month year.
3. Payee. This is the person to whom the note payment
is to be made.
4. Face value of the note. It is the sum of money
borrowed stated in words and in figures. The face
value is added to the interest to get the maturity
value of the loan. For a non-interest-bearing note,
the face value is equal to the maturity value.
5.Interest rate. It is the percent at which interest is
computed. For non-interest-bearing note, it should
be stated that face value is received with no interest.
6.Maker of the note. This is the person who borrows
a sum of money and executes the note. The maker’s
signature appears on the note.
The date of the note December 12, 2005; the term is 4 months; the face value is ₱8,900;
the maker is Eduardo M. Robles; Arturo J. Valisno is the payee.

Since it is non-interest-bearing note, then

Maturity value = face value = ₱8,900.

To find the maturity date, count 4 months from December 12, 2005. The maturity date,
therefore, is April 12, 2006.
A promissory note, as long as it is unconditional
and properly written, may be sold several times
before its due date. The process of selling the is
called discounting the promissory note. The
discounted value or the proceeds of the note is
called the price of the note. The buyer discounts
the maturity value of the note for the length of
time from the date of discount to the due date
at a discount rate.
To discount a promissory note, follow the steps
below.
a. If the note is non-interest-bearing, P=F, where
P is the face value and F, the maturity value.
b. If the note is interest-nearing, compute the
maturity value using the formula
F=P(1+rt) or F=P+I, where I=Prt

Discount the maturity value using the formula

P=F(1-dt) or P=F-D
Where D=Fdt and P is the proceeds of the
note at a given discount rate d, for the
term of discount t. The term of discount is
the length of time from the date the note is
discounted to the maturity date.
Example 1
A note made by Nancy Reyes dated January 28
reads: Ninety-five days after date, I promise to
pay Juan Delgado the sum of ₱11,300 with
interest at 12%.

a. What is the maturity date of the note?

b. Determine the maturity value of the note.
c. If the note is sold to a bank April 15 at 10 ½%
discount rate, compute the proceeds of the note.
Solution:

a. January 28 is the 28th day of the

year.
28 + 95 = 123
May 3 is the 123rd day of the year.
The maturity date is May 3.
 Thank you for

listening!

Any questions?