What is the time value of money? Why £1 today beats £1 next year
By SendPay Business · · 2 min read
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The time value of money is the idea that money you have now is worth more than the same amount in the future, because today's money can earn interest in the meantime. It is one of the building blocks of banking and finance.
Future value
Future value is what money today grows to at a given rate. £1,000 at 5% a year grows to £1,050 after one year and about £1,276 after five, because each year's interest also earns interest.
Present value
- Present value works the other way: what a future sum is worth today.
- Divide the future amount by (1 + rate) for each year: £1,276 due in five years at 5% is worth about £1,000 now.
- The rate used is called the discount rate. The higher it is, or the further away the money, the less it is worth today.
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Where it is used
Banks use it to price loans and savings. Bond prices are the present value of their coupons and repayment. Businesses use it to compare projects that pay back at different times, and it explains why a lump sum today can beat a bigger payment later.
Inflation and risk
Rising prices make future money buy less, and money promised later may not arrive. Both are reasons people expect a return for waiting, which is why discount rates tend to rise with inflation and risk.
Where SendPay fits
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Questions people ask
How do I work out present value?
Enter the amount, rate and years into the free calculator.
Present value calculator →How does compound interest grow savings?
See how interest on interest adds up over time.
Compound interest calculator →Read next
Spotted a mistake or something out of date? and we'll fix it. How our guides are made
This guide is general information, not legal or financial advice. SendPay Business is a technology company, not a bank, and does not take deposits; regulated services on the platforms are provided by licensed partners. Other companies named in this guide are reference points only and are not affiliated with SendPay Business.