Present Value: What Future Money Is Worth Today

Present value is the reason a jackpot paid out over twenty years is worth nowhere near its headline figure. It is also the arithmetic behind pension lump sum offers, structured settlements, and every buy-now-or-pay-later comparison anyone will ever put in front of you.

The formula, and why the rate does most of the work

Future value on top, one plus the rate raised to the number of periods underneath. For £10,000 in five years at 5%: 1.05 to the fifth power is 1.2763, and 10,000 divided by 1.2763 is £7,835. Put the other way round, £7,835 invested at 5% grows into exactly £10,000 over those five years. They are the same money seen from opposite ends.

When the money arrives as a stream

Most real decisions involve a series of payments. Take a prize advertised as $1,000,000, paid as $50,000 a year for 20 years. Discounted at 5%, that stream is worth about $623,000 today. The final payment, arriving two decades out, is worth $18,845 in today's money, which is where the missing third of the headline goes.

The rate matters more than the payments

Run the same $50,000 stream at 3% and it comes to roughly $744,000. Two percentage points moved the answer by $120,000 without changing a single payment. Worth remembering when somebody hands you a present value figure and does not mention what rate produced it.

Choosing a discount rate

This is the input people get wrong, because there is no correct answer, only a defensible one. The rate should reflect what you would realistically do with the money instead. If the alternative is overpaying a mortgage at 4.5%, use 4.5%. If it is a savings account paying 3%, use 3%. Businesses generally use their cost of capital.

Higher rates punish distant money harder. At 10%, that same £10,000 five years out is worth only £6,209. If you would rather see what money grows into than what it is worth now, the same maths runs in reverse in our compound interest guide.

Using the present value calculator

For a single sum, fill in the future amount, the discount rate and the number of periods. For a stream, switch to payment mode and enter the recurring amount, the rate, the number of payments, and whether payments land at the start or the end of each period. That last toggle is easy to miss and shifts the answer by a full period of interest, which on the prize example is about $31,000.

Keep the rate and the period on the same clock. A 6% annual rate with monthly payments means 0.5% a month across 240 months, not 6% across 20. Mixing the two is the most common error here, and it produces answers that look entirely plausible. If you are sizing up an investment rather than valuing one already on the table, the investment calculator guide is the better starting point.

Common questions

What is the difference between present value and net present value? Net present value takes the present value of everything coming in and subtracts what you pay up front. If a project costs £500,000 and its future cash flows are worth £560,000 today, the NPV is £60,000 and the project clears the bar.

Should I use the inflation rate as my discount rate? Only if your future amounts are already stated in today's money, otherwise you count inflation twice. The clean approach is to discount nominal cash flows at a nominal rate and inflation-adjusted flows at a real rate.

Lump sum or monthly payments from my pension? Work out the present value of the payments at a rate you could genuinely earn, then compare it with the lump sum on offer. If the payments are worth more, take the payments. It ignores tax and how long you live, so treat it as one input rather than the decision.

Why does my answer differ from a spreadsheet? Usually sign conventions. Excel's PV function returns a negative number for a positive future value, because it treats it as money you hand over. It also assumes end-of-period payments unless you tell it otherwise.