Answered: Anne purchased an annuity from an…

FINANCIAL ACCOUNTING

10th Edition

ISBN:9781259964947

Author:Libby

Publisher:Libby

Chapter1: Financial Statements And Business Decisions

Section: Chapter Questions

Problem 1Q

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Question

Anne purchased an annuity from an insurance company that promised to pay her $20,000 per year for the next 10 years. Anne paid $145,000 for the annuity, and in exchange she will receive $200,000 over the term of the annuity.

a.) How much of the first $20,000 payment should Anne include in gross income? (Do not round intermediate calculations.)

Amount to be included

b.) How much income will Anne recognize over the term of the annuity?

Income Recognized

Expert Solution

Amount to be included in gross income

Each cash flow of $20,000 represents two amounts, one is return of original investment and one is income on investment. The income portion of the cash flow will be included in gross income.

$\begin{array}{rcl} R e t u r n o f O r i g i n a l I n v e s t m e n t & = & \frac{I n v e s t m e n t}{T e r m} \\ = & \frac{$ 145, 000}{10 years} \\ = & $ 14, 500 \end{array}$

$\begin{array}{rcl} Income Portion & = & Total Cash flow - Return of Original Investment \\ = & $ 20, 000 - $ 14, 500 \\ = & $ 5, 500 \end{array}$

Amount to be included in gross income is $5,500.

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