Module5: Interest and Commission

In this module, you will be able to

explain the basic concepts of interest;
applied to mortgage, to amortization,
illustrate how interest is computed specifically as
on services/utilities, and on deposits and loans;
illustrate the different types of commission;
basis;
compute commission on cash basis and on installment
and current increasedbalance.
illustrate how to obtain down payment, gross balance,
and
solve problems involving interest and commission.

in different businesstypes,
Interest and commission are two very common concepts applied
Itis
Understandingthese concepts will help you make wise financial decisions in your life.
therefore a must that you exert effort on trying to have a good grasp of the concepts thatwill
be discussed in this module as they are real-lifeconcepts.

Interest
People borrow or loan money for various reasons. A person may borrow money to payfor
unexpected expenses like hospital bills, take advantageof a midnight sale, purchasea
gadget, buy a car, or finance travel expenses.A business owner may borrow money to meet
his or her future business plan of expansion,pay his or her business current expenses,take
advantage of cash or quantity discounts, and many more.
The charging of interest for the borrowed or loaned
money can be justified from the standpoint ofthe lender Big
or the investor, as he or she foregoes the use of his or her
money during the time it is borrowed and takes the risk Idea
of lending or investing it. Hence, for the lender, interest Start saving for the futureand
is the amount or income he or she earns for lending or learn to live within your meansso
investing his or her money. that you will not need to borrow
money.
From the borrower's viewpoint, interest is the
amount he or she has to pay for the use of money he or
she has borrowed or loaned
Interests can be classified as simple or compound
interest.
SimpleInterest
Simple interest is the interest
computed based on the principal only (the amount of money
borrowed or invested). It is usually used
for short-term loans or investments.
Simple interest can be computed using
the formula
1 = Prt
The maturity value (F) or the total
amount the borrower has to repay is equal to the sum of
the principal plus the interest. It is also referred to
as the future value.

F=P+Prt

Example l: What would be the interest Kaye has to pay if she borrowed PIO 000 for I year
with an interest rate of 6% per annum?

Solution:
1 Prt
(PIO
P600

Example 2: What is the total amount that Kaye will pay at the end of I year?

Solution:
Use the formula for the maturity or future value.
F=P+I
F 000 + P600
PIO 600

Example 3: If instead of paying PIO 600 at the end of I year, Kaye was required by the lender
to pay PIO 750, what is the rate of interest applied on the loan?

Mathematicsof Management
 value.
or future
Solution: Illaturity
for the
Recall the fonnula

000 [1 +
'10 750

10 000 10 000

1.075=1 + r
r=1.075-1
savings account so that he will be
father depositin his interest rate is 3%?
a ifthe bank's
Example4: How much should 3 years
after

Solution: interest.
future value for simple
Use the formula for the
F = P(l+rt)
moo 000 =
moo 000 = PO + 0.09)
moo 000 = PO .09)
P(l.09) 100 000
1.09 1.09
P=P91 743.12
Example 5: How long will it take for your money to double at 6.5 % simple interest?
Solution:
Assume P = Pl. Double means F P2.
Use the formula for the future value for simple
interest.
F = P(l+rt)
2
2 I + 0.065t
2-1 0.065t
1 0.065t
0.065t 1
0.065/ 1
0.065 0.065
15.38 years
CompoundInterest
Compound interest is computed based on the principal plus the accumulated interest. This
is the reason why compound interest is also known as the "interest on top of the interest."
Unlike simple interest, compound interest allows interest to earn its own interest. Interest
is periodically computed and added to the principal. The combined amount of the original
principal and the interest then becomes the new beginning principal for the succeeding period.
The procedure is illustrated below.

Principal (Amount at Interest

Interest Earned Future Value (Amount Due at the End
the Beginning of the
Period during the of the Interest Period)
Period)
Period
1 Pi (Factor the common
monomial factor P.)

2 P(l + i) amountat [Factor the common

the end of period I factor P(l +
(Apply the law of
exponents.)

P(l + amount at PO + i)2i + pc 1 + i)2i [Factor the common

3
factor + i) 2.]
the end of period 2
P(l + + i) (Applythelawof
exponents.)

P(l + i)3i + + pc 1 + i)3i [Factor the common

4 P(l + = amount at
factor P(l + i)3.]
the end of period 3
(Apply the law of
exponents.)
PCI +

+ On-I [Factor the common

n P(l + i)"-l amount
+ i)n-ll factor P(l + i)n-l .1
at the end of the
previous period n 1
(Apply the law of
exponents.)
 formulas are as follows:
The compound interest

mt

1=F-P
where
F = future value or accumulated value
P = principal
I = compound interest
i = — = rate of interest per interest period
m
n = mt = number of interest periods
m = number of compounding periods per year
t = time or term of investment (in years)
r = nominal rate of interest (in percent)

Example 6: An amount of PI 00 000 is invested for 2 years at 600interest compounded quarterly.

Is this a better investment compared to investing it at a simple interest of 6%?

Solution:
At compound interest:
mt

m
4(2)
0.06
-moo 000 1+——
4

= PI 12 649.26

At simple interest:
F P (1 + rt)
= moo 000 [l + 0.06(2)]
= PI 12 000
Yes, it is a better investment because it has a higher
accumulated amount
that for simple interest. compared to
 Example 7: Kyle has to decide if he should deposit his P5 000 in a savings account at a simple
interest of 5% for 5 years or invest it in his friend's business which can potentially
earn an interest of 5% compoundedmonthly for 5 years. What should be his
decision?

Solution:
Option I (Simple Interest):
F=P5 000 [1+ P6 250
Option 2 (Compound Interest):
mt

m
12(5)
0.05
-P5000 1+—-
12

P6 416.79
Kyle should invest his money in his friend's business.

Reflect Upon

If you are to invest your money, which should you choose—an investment that earns
simple interest or another investment that applies compound interest? Explain your
answer

NominalRate versus EffectiveRate of Interest

Interest rates can be classified into nominal rate of interest or effective rate of interest.
Nominal rate of interest indicates the rate of interest and the number of interest periods per
year. This rate of interest is computed by using the following formula:

m
where i = rate of interest per interest period
r = nominal interest rate
m = number of compounding periods per year
 period ifthe nominal rate of interest is
interest per interest
Example 8: What is the rate of
compounded monthly?

Solution:
r 12
1= — = — = I % (rate of interest per
interest period)
Big
m 12
Idea
Take note that the effective
Effective rate of interest (ERI) refers to the actual rate of interest, which is the
or exact rate of interest on the principal during one actual interest applied, is higher
year. The effective rate of interest is computedusing than the nominal rate. Be aware
the following formula: of this when using a credit card.
Double-check which rate of
interestis specified by the credit
ERI= 1+ -1 card companies.
m

Example 9: What is the nominal interest rate which if converted monthly could be used instead
of 12% compounded annually? What are their corresponding effectise rates?

Solution:
Let r the unknown nominal rate.
For two nominal rates to be equivalent,their correspondingeffectiverates must
be
equal.

Nominal Rate Effective Rate

12
r 0/o compounded monthly -l
12
1
0.12
12% compounded annually -1
1

12
0.12
-1
12 1
12

=1.12
12
 0.1139 or 11.39% compounded monthly

ERI= 1+— 0.12

-1 1.12-1 = 0.12 or 12%
m 1

Alternative solution using the computed equivalent nominal rate:

12 12
0.1139
ERI = 1+—- 1.120038261 1 = 0.12 or
-1
12 12
 Determining Interest as Applied to Mortgage, Amortization, Services,
Utilities, and Deposits and Loans
It is important that you know how interest is applied to mortgage, amortization, services
utilities, deposits, and loans. This financial knowledge will help you in making wise decisions
on matters involving money.

Example 10: You are making your biggest financial decision which is the purchase Ofyour
dream house. You are planning to take out a mortgage. Your bank agreed to lend
you a sum of money to buy your dream house and you agree to pay it back. The
house serves as collateral for the loan which means that if you fail to pay, the
bank could repossess your house. How much is the total interest paid over the
mortgage term of 30 years if the mortgage of your dream house amounted to
P3 020 000 with an annual percentage rate of 9.5%?

Solution:
Find the equivalent nominal rate compoundedmonthly for the annual percentage rate
of 9.5%.
12
0.095
12 1

Mortgage Amount
Monthly Amortization

P3 020 000
-(12-30)
0.0911
12

0.0911
12
539.01

Total interest = (P24 539.01 x 360) -P3 020 000

Big
= P8 834 043.60 P3 020 000
Idea
= P5 814 043.60 Before borrowingor
money, study lending
 Go ()nline
'Use the mortgage
calculator found
accessed on 28 July 2015) at http://www.consumerhelp.ie/loan-calculator(last
credit (total interest) for to determine
a mortgage. what would be your monthly repayment and cost of
compare the answer with the Solve example 10 using the mortgage calculator and
answer solved manually.

Example Il: Mr. Reyes

applied and was
With a fixed rate of approved for a salary loan amounting to P24 000.
5.5% per annum, how much will be the interest for 1 year?
How much will be his
monthly amortization? Compute the principal and interest
for the first month on
his salary loan.
Solution:
Find the equivalent nominal
rate compoundedmonthly for the 5.5% interest per
annum.
12
0.055
12 1
12 121.055-1) = 0.053660387

Monthly Amortization Loan Value

24 000
0.0537
1-
12

0.0537
12
24 000 24 000
-12
1 (l .0045) 11.66
0.0045

P2 058.32

Total Interest (Cost of Credit) = (P2 058.32 x 12) P24 000

Interest (1st month) = P24 000 x 0.0045 = P 108

Principal Repaid (1st month) P2 058.32 -mos = PI 950.32

Mathematics of Management
 WALLS 5.3 Go Online

http:/wsvw.consunwrhelp.ie/loan-calculator (last accessed

Use the loan calculator at or repaytnent for a loan. Use the 10
28 July 2015) to cotüPute the tnonthly an101tization
calculator to verity the solution for exatnple I l.

receiver to the gOVernmenton

Example 12: Service tax is an indirect tax paid by a service
the quarter for which servicetax
before the 5th day of the month following
ending March to be paid on or
payable with the exemption for the quarter payment of servicetax
delayed
the 31st of March. The rate of interest for
Suppose you failed to pay your service tax of PI 5 000 for the monthis
13%. pay it only on the 30th
to
June, what is your interest liability if you remember of
July?

Solution:
Number of Days Delayed x 0.13
Interest Payable Unpaid Amount x
365
25
0.13
365
P133.56

Example 13: Suppose you have a regular savings account with an available balanceof
P5 000. How much net interest is earned by this deposit account for a monthif
the prevailing bank's interest rate is 0.500 per annum and the withholding taxis
20%?

Solution:
To compute the gross interest, use the simple interest formula I Prt.
1
Gross Interest = P5 000 x 0.005 x —
12
P2.08
Withholding Tax = Gross Interest x Withholding Tax Rate
P2.08 x 0.20 = PO.42
Net Interest = Gross Interest —Withholding Tax
= P2.08-PO.42 = PI .66
 AlternativeSolution:
Net Interest = Gross
Interest x (1
P2.08x WithholdingTax)
0.80 Pl.66
Example 14: An employee
has placed
account for 90 her money amounting to PI 00 000 in a time dep«
days with an
withholding tax, interest rate Of I. 5% per annum. Considering 21
how much will be her net
interest income?
Solution:

Net Interest Income 90

PI 00 000 x 0.015
x x (1 -0.20)
P300 360

What Have I
Learned So Far?

Solve the following problems

and apply all the concepts learned in the examples.
l. Kaye's housing loan
worth P810 000 for 5 years was approved by the bank with an
interest rate of 8% per annum.
How much will be her monthly amortization?
2. The company of Mr. Apsay
has been audited last 30 July 2015 and an error of PI 2 000
in his service tax payment due
last March was detected. Because of this, he has to pay a
penalty of 20% of the amount owed.
How much should he pay at the end of July?
3. A loan ofP250 000 was made for 75 days with an
interest rate of 5—%. How much
interest would be paid?
4. How much interest will be earned by a time deposit of half a million pesos for 120 days
if the bank's interest rate per annum is 1.5%?
5. Kariz failed to pay her utility bill for the month of June amounting to PI 829 which was
due on 6 July. She paid the bill on 30 July which was subjected to a late payment penalty
of 5%. How much did she pay for her utility bill for the month of June?

Commission
Some companies pay their salespeople a straight salary, while others compensate their
salespeoplethrough sales commission. Commissionis the amount of money a salesperson
receives based on the level of his or her sales. This amount is based on an agreed percentage
Ofthe revenue the salesperson has brought in through his or her sales. Some companies pay
commissions to their salespeople based on the latter's gross profit rather than on gross sales to
make sure that these companies maintain the profitability of their products or services. This is
known as the straight commission. Other companies combine salary with commission.

Mathematics of Management 119

 receive may vary from product to product and
The amount of percentage salespeopleofconunissions is commonly practiced in real
depend on the level oftheir sales. Payment
are paid to motivate salespeople to sell more because the bigger
marketing. Commissions th
commission would be.
revenue through their sales, the bigger the

Types of Commission
salesperson receives only a fixed
l. Straight commissionis a compensationplan where the
the total commission that
percent of sales. No fixed salary is given. There is no limit to a
salesperson can earn.

Example 15: Liza, a beauty product agent, was able to sell beauty products worth P48 000
Given that her commission rate is 15%, how much will she receive if her earnings
are based on commission alone?
Solution:
Commission = Sales x Commission Rate
P48 000 0.15 P7 200

2. Salary plus commission is an alternative compensation plan where a salesperson receives

a commission in addition to his or her fixed salary. This compensation plan offers
security
of receiving somethingregardless of the level of sales a salesperson
makes. However,
companies who offer this compensation plan usually have high
expectations and quota that
salespersons have to meet.

Example 16: If Liza receives a monthly salary ofP20

000 and 10% commission on her total
sales, what would be her total earnings for the same
amount of sales (refer to
example 15)?

Solution:
Total Earnings = Monthly Salary + Sales
Commission
-mo 000 + (P48 000 x 0.10)
no 000 + P4 800 = P24 800

3. Salaryplus bonus is a
compensation plan where salespeople
their sales quota. This plan intends receive a bonus if they exceed
to keep salespeople motivated
to do their best.
Example 17: •IfLiza's sales quota
is P25 000, how much
bonus of 12% if she exceeds will be her earnings if she is given a
her sales quota?

BusjnesS Math
 Solution:
Total Earnings = Monthly
Salary + Bonus
P20 000 + [(P48 000
P25 000) x 0.121
P20 000 + P2 760 P22
760
4. Graduated commission is a
compensation plan where the rate of commission increases as
the sales volume increases.

Example18: If Liza receives no fixed

salary and she is being paid based on a graduated
commission scheme, how much is
her total earnings if she is paid 10% on the
first P20 000, 15% on the second
P20 000, and 20% on all sales in excess of
P40 000?

Solution:
Commission on the first P20 000 P20 000 x 0.10 P2 000
Commission on the second P20 000 —P20 000 x 0.15 P3 000
Commission in excess ofP40 000 P8 000 x 0.20 PI 600
Total Commission P6 600

5. Override commission refers to the additional

commission that sales managers or supervisors Big
earn from the sales of their sales representatives
(subordinates).
Idea
Knowledge of the differenttypes
of commission and how each one is
Example 19: If Liza's sales supervisor receives 1% computedwill help you choose the
override commission from the sales of right structure of sales commission
his sales representatives, how much is for you when you decide to join the
the override commission of the sales sales world or for your salespeople
when you decide to put up your
supervisor based on Liza's sales alone? own business in the future.

Solution:
000 x 0.01 P480
Override Commission = P48
 950
amounted to and
sales
if

or gra
variable
given
'L 1),
000 60/0
Up to rso
salary
receivea 1)?
earnings number
(refer to of P2s
3. sales a fixed
on all your
00112% received the total sales,
if you 000 (for
4. How much total quota Of
your sales
a bonus018% on your sales if she receives
commission
override
5. Howmuchwill be supervisor's
2% (refer to number l)?

Computing Commission on Cash Basis The commission

sale is completed. is based
Commission is computed on cash basis when a
company pays to a salesperson
on cash received from the sale. Hence, it is a fee that a
exchange for his or her service in completing a sale.

Example20: Mercy works part-time as a real estate agent and earns a commission of 5% fot
the sales she made. She was able to sell in cash three units of townhouses worth
PI 409 640 (cornerunit),PI 115960 (end unit), and P876 000 (inner unit). How
much will be her total commission?

Solution:
Total sales PI 409 640 +PI 115 960 +
P876 000
P3 401 600
Commission = Total Sales
x Commission
Rate
P3 401 600
0.05 P170
080

122 Business Math

 Example 21: For her
birthday,
Alyssa
chose to have
gave them a new car instead of a debut party.
a
receive if he discount of P35
is given 000. How much
a commission commission will the sales agent
Solution: rate of 3%?
Net selling Price
Unit Price
P648 000 Discount
Commission =P613 P3s 000 P613
000 x 0.03 000
P18 390

Reflect Upon

Why do you think

salespeople are
often paid on
commissionbasis?

ComputingCommission on
Installment Basis
commission is computed
on installment
than cash payment. This basis when sales involve periodic payments rather
computation of
method of selling involves commission is commonly used a company when the
installment transactions by
in involving salespeople in collecting or credit terms. This is viewed as effective
overdue accounts.
Example 22: Kaye purchased a townhouse
unit whose total contract price is P921 200. She
paid P5 000 as reservation fee
which is to be deducted from the total contract
price. She has to pay a total gross
equity of P 106 200 in 18 months. Equity is the
difference between the value of the property and
the cost of liabilities of owning
the property. The balance will be paid through a housing loan from a bank or
Pag-1BIG Fund.
a. How much should Kaye pay monthlyfor the equity?
b. If the real estate agent receives 3% commission,how much will she receive as her
monthly commission on installment basis starting on the 7th equity payment based on
the company's commission structure?
c. How much was the gross balance or the amount to be financedby the bank?
d. How much is the current increased balance (gross balance with added interest) when
charged with an interest rate of 32%?

Mathematics of Management 123

 pay monthly th
Fund ifKaye
e. What is the
between the total
(difference
interest
f. Calculate the remaining
payment and the gross balance).

Solution:
a. Monthly Equity = Total Equity + 18 months
200+18 p5900
Commission Rate
b. Total Commission = Total Contract Price x
636
P921 200 0.03 r27
+ 12 = P2 303
Commissionon installmentbasis (12 months) P27 636
c. Gross Balance (Amount to Be Loaned) = Total Contract Price ----(Reservation Fee
+ Total Equity)
r921 200 (P5 000 + PI 06 200)
P810 000
d. Current Increased
Balance = Gross Balance (l + Interest Rate)
P810 000 (l + 0.32) = m 069 200
e. Net Monthly Amortization Amount to Be Financed (l + Interest
Rate)
Loan Term
m 055.75 P 810 000(1 + Interest Rate)
360
InterestRate =
[(P7 055.75 x
360) + m 10 0001 1
2.1359 or 213.59%
f. RemainingBalance
= (Net Monthly
Amortization x Loan
---Gross Balance Term)
(P7 055.75x
360) P810
m 540 070 000
000
PI 730 070

Business Math