Understanding the time value of money for FAR is incredibly important. It appears in the accounting for leases, bond valuation, corporate finance (BEC), and pension accounting, just to name a few. Conceptually, it should be a very easy topic for students to master - a dollar today is worth more than a dollar tomorrow for the simple reason that with a dollar today one can consume, and without a dollar today one cannot consume. To compensate someone for delaying his or her consumption, interest is added to the principal amount (the amount of money that is being delayed). This interest represents the price of consumption today. The most common proxy used for this interest rate is the risk-free US Treasury rate. Any interest premium in addition to the US Treasury rate represents compensation for any other risk factors. This all should seem intuitive.
The AICPA does not allow the use of financial calculators on the CPA exam. Students are only allowed to use simple calculators that are provided with the testing software. This makes calculating present values and future values incredibly cumbersome and monotonous. Therefore, the AICPA relies heavily on discount factors and future value multiples to test students on these concepts. This is where the confusion ensues! Students need to be comfortable with this approach, so taking a step back and understanding the mechanics of what is going on is important. Here are some steps to take: