Annuity vs Perpetuity

Difference Between Annuity and Perpetuity

Annuity refers to regular payments for a certain period of time under some contract or agreement with an insurance company and present value of annuity is determined by taking the present value of future payments by discounting it at compounding rate whereas perpetuity refers to the infinite payments at fixed rate forever and it is calculated using simple interest formula.

Both are implicated while calculating the present or future value of a financial product and are significant parts of the Time Value of Money calculation.

Annuity-vs-Perpetuity

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  • Annuity means when a series of the same amount of cash flow is received or paid over the life of the asset on a monthly, quarterly, semi-annually, or annually basis.
  • Whereas Perpetuity means when a series of the same amount of cash flow received or paid forever on a specified time-frequency. Hence, we can say that infinity is similar to Annuity, which will last till infinity.

These financial management concepts are used in our routine life, like purchasing a car on bank finance and repaying the loan in sequential EMIs’ or paying regular leaseLeaseLeasing is an arrangement in which the asset's right is transferred to another person without transferring the ownership. In simple terms, it means giving the asset on hire or rent. The person who gives the asset is “Lessor,” the person who takes the asset on rent is “Lessee.”read more amounts to our landlord. Here we will understand both the concept of the time value of money in detail.

Annuity vs. Perpetuity Infographics

Annuity vs Perpetuity

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Key Differences

Perpetuity vs. Annuity – Comparative Table

Sr NoComparision AnnuityPerpetuity
1DurationDuration of Annuity is certain, till the life of the financial asset.Duration of Perpetuity is infinite / forever
2TypesOrdinary Annuity and Annuity Due are the two types of AnnuityNo such type of Perpetuity
3InterestIt uses the compound interestThe Compound InterestCompound Interest is the interest earned from the initial Principal & the previously accumulated Interest amount. This is also known as “Interest on Interest” & it is always higher than the Simple Interest. read more to calculate the present or future value of AnnuityIt uses the simple interest to calculate the present value of PerpetuityPresent Value Of PerpetuityPerpetuity can be defined as the income stream that the individual gets for an infinite time. Its present value is derived by discounting the identical cash flows with the discounting rate. Here the cash flows are endless, but its current value amounts to a limited value.read more
4ExampleCoupon, Rent, EMIConsols, i.e., bonds issued by the UK Government, Constant Dividend
5UsabilityAn annuity is very frequently used in Financial MarketsPerpetuity is not frequently used in Financial MarketsFinancial MarketsThe term "financial market" refers to the marketplace where activities such as the creation and trading of various financial assets such as bonds, stocks, commodities, currencies, and derivatives take place. It provides a platform for sellers and buyers to interact and trade at a price determined by market forces.read more

Conclusion

We can conclude that Perpetuity is a perpetual annuity. The only difference between them is their time. On the one hand, an annuity has a finite set of sequential cash flows. On the other hand, Perpetuity doesn’t have any specified existence, and it’s payment frequency extends indefinitely.

While calculating the present value or future value of Annuity, you must have to consider cash flow, cash flow frequencies, interest rate, and the time at which the first payment is made, i.e., at the beginning of the period or the end of the period. But the calculation of Perpetuity is quite simple, and while calculating the present value of the Perpetuity, you only need to consider the cash flow and the stated interest rate.

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