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Ok, this is a departure from my normal biotech / research stuff, but there’s so much internet-stupidity going on that I want to post something about basic financial math.

Everyone has their panties in a bunch because the iPhone 3G costs less up front but “costs more over the life of the contract!”  This is a bunch of crap, and people who believe that are also going to get screwed when they buy a car or a house.

Here’s the thing: you cannot compare 2 financial deals simply by adding up all of the payments and seeing which is bigger, because there is such a thing as the “time value of money.”

Here’s the way it works, money accumulates interest over time, so to compare two payment plans (phone plans, loans, whatever) you have to include a “net present value” calculation.  Imagine I am your friend and I loaned you $5,000 interest free, and you could pick 2 options to pay me back: $50/month for 100 months, or $5,000 at the end of 100 months.  Those two option add up to the same number, $5,000, but they are very different in terms of your actual personal finances.  If you paid me back after 100 months you could put that whole $5,000 in the bank for 100 months and by the time you paid me back you’d have made an extra $2,600 on it in interest.  But if you pay me back $50 every month you’d only have $1435 in interest.

Ok, the iPhone 3G

The monthly payment is $10 more per month, which is $240 more over the life of the contract.  This doesn’t matter, because it’s offset by the lower up front cost.  The up front cost is $200 lower, and if you put that in the bank and paid your extra $10 per month out of that account you’d make it most of the way to 2 years, because you’re earning interest on the money the longer you get to keep it.

If you assume:

• interest rate of 5% per year (0.412 per month approx)
• Up front cost of $400 vs $200
• Monthly fee of $60 vs $70.

In Excel, use the PV (present value) function:

=PV(0.412%,24,60) + 460

Note the final -460 is the cost of the phone plus the first month’s payment.  And of course replace the -60,-60,… with a set of cells where you have 24 monthly payments.

vs

=PV(0.412%,24,70) + 270

You get two net present values: $1866 vs $1828.  So the iPhone 3G costs are really only $38 more over the life of the contract.  Yes, it’s not cheaper (and not half the price like the apple site claims), but it’s also not a rip off.  It’s almost exactly the same damn deal as last time, and people were fine with it then.  This is how cell phones work, and there’s nothing iPhone specific about it.  All smartphones with data plans have contracts that cost about the same thing.  Can we please talk about something interesting now?

I’ve attached an Excel file with these calculations that anyone is welcome to check out.  It’s very simple, because this is very simple financial math.  I encourage you all to read up on this until you understand it because the same rationale that makes you think the iPhone 3G is dramatically more expensive (focusing on monthly payments) makes you vulnerable to getting screwed on a car purchase or home loan if they throw in a baloon payment or change the up front costs or vary the interest rate.  It may look hard, but really, this is just a necessary small step up from understanding your household finances.  If more people had this basic skill we’d have a lot less homes in foreclosure today.