# Time value of money

The**time value of money**is one of the basic concepts of finance. We know that if we deposit money in a bank account we will receive interest. Because of this, we prefer to receive money today rather than in the future. Money we receive today is more valuable to us than money received in the future by the amount of interest we can earn with the money. This is referred to as the time value of money. It is the change in purchasing power of money over time.

It also takes into account default risk and inflation. $100 today is a sure thing and can be enjoyed now. In 5 years that money could be worthless or not returned to the investor.

To adjust for this time value, we use two simple formulae. The present value formula is used to discount future money streams: that is, to convert future amounts to their equivalent present day amounts. The future value formula is used to convert today's money into the equivalent amount at some time in the future.

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2 Present value 3 See also |