Capital Flashcards
1
Q
What is capital?
A
Money or property that can be used to create more wealth by investing.
2
Q
What does the time value of money describe?
A
How investments grow over time and the possibility of gain that attracts investors.
3
Q
Why do site managers budget capital?
A
To ensure the future of property for major expenditures such as renovations, restorations, and additions.
4
Q
What is capitalization?
A
A technique for determining the value of the property used in decision making.
5
Q
How can rates of return be used?
A
To determine how productive an investment is.
6
Q
What will you be able to explain at the conclusion of this lesson?
A
How an investment grows through the time value of money and its relation to decision making in real estate.
7
Q
What are the purposes of a capital budget?
A
To outline and manage major expenditures for property improvements.
8
Q
What is a key reason why capital expenses are treated differently for tax purposes?
A
They involve significant investments that affect financial reporting and tax liabilities.
9
Q
What is the difference between direct and income capitalization?
A
Direct capitalization estimates value based on income, while income capitalization focuses on the potential income generated.
10
Q
Fill in the blank: Capital is money or property that can be used to create more _______.
A
[wealth by investing]
11
Q
True or False: The time value of money only applies to short-term investments.
A
False
12
Q
What is capital?
A
Money or property owned by an individual or a business
Capital is also any form of wealth used or ready for use in creating more wealth.
13
Q
How does a person or a company use capital?
A
To create more wealth, often through investment
Investing money is usually the best way of increasing one’s wealth.
14
Q
What is a capital budget?
A
A budget specifically for major expenses or capital expenditures
It differs from other kinds of budgets by focusing on large investments.
15
Q
What does NOI stand for?
A
Net Operating Income
NOI is used to determine if the property generates enough income to cover debt service.
16
Q
What does cash flow indicate?
A
The overall financial health of a property after capital budgeting
Cash flow is evaluated after subtracting capital budgeting for replacements.
17
Q
What is the time value of money?
A
The concept that an investment will grow over time
It underlines the importance of investing money to increase wealth.
18
Q
What is compounding?
A
Interest paid on the principal and previous interest of an account or investment
It causes money to grow quickly as the principal increases.
19
Q
Why is compounding important to investors?
A
It allows money to add up swiftly due to the growth of interest
As the principal grows, the amount of interest paid at the end of each period also grows.
20
Q
Fill in the blank: Capital is often available for _______.
A
investment
21
Q
What is the relationship between capital and property ownership?
A
Property owners invest in real estate expecting value appreciation
This expectation drives the purchase of office buildings, shopping centers, and apartment complexes.
22
Q
True or False: Cash flow is more important than NOI in determining financial viability.
A
False
NOI is crucial for assessing if the property can cover its debt obligations.
23
Q
What does a capital budget help manage?
A
Funds and cash flow needed for property purchases and major improvements
24
Q
What is compounding?
A
The process where the value of an investment increases due to interest being added to the principal, so that from that moment on, the interest that has been added also earns interest.
Compounding is essential for investors as it allows their investments to grow exponentially over time.
25
What was the initial investment amount given by the grandmother?
$20,000
## Footnote
This amount is used to illustrate the impact of compounding in both variable and fixed interest scenarios.
26
How much did the investment grow in Year 1 with a growth rate of 3%?
$20,600
## Footnote
Calculation: $20,000 x 0.03 = $600; $20,000 + $600 = $20,600.
27
What was the growth rate in Year 2?
9%
## Footnote
The investment continued to grow after a mixed performance in the previous year.
28
What was the account value at the end of Year 2?
$22,454
## Footnote
Calculation: $20,600 x 0.09 = $1854; $20,600 + $1854 = $22,454.
29
What was the growth rate in Year 3?
16%
## Footnote
Year 3 saw a significant increase in the mutual fund's value.
30
What was the final account value after three years of compounding in the mutual fund?
$26,046.64
## Footnote
Calculation: $22,454 x 0.16 = $3592.64; $22,454 + $3592.64 = $26,046.64.
31
What is the formula for calculating future value (FV) of an investment?
FV = PV x (1 + i)n
## Footnote
Where FV is future value, PV is present value, i is the interest rate per period, and n is the number of compounding periods.
32
If an account pays 5% interest calculated quarterly, what is the interest rate per quarter?
1.25%
## Footnote
This is derived from dividing the annual interest rate by the number of quarters.
33
What is the future value of the investment after three years with a fixed interest rate of 5% compounded quarterly?
$23,200
## Footnote
Calculation: $20,000 x (1 + 0.0125)^12 = $20,000 x 1.16.
34
True or False: Compounding can only occur with a fixed interest rate.
False
## Footnote
Compounding can occur with both variable and fixed interest rates.
35
Fill in the blank: Compounding allows investments to grow ______ over time.
exponentially
## Footnote
This growth occurs because interest is earned on both the initial principal and the accumulated interest.
36
What is equity in the context of capital?
Equity is the money spent by an investor to acquire a capital asset.
## Footnote
Sometimes the term equity investment is also used.
37
Define liquidity.
Liquidity is the relative ease with which an asset can be disposed of or turned to cash.
## Footnote
A savings account is considered liquid, while real estate is not highly liquid.
38
What is working capital?
Working capital is the amount of funds a company has on hand to conduct business over the short term (thirty to ninety days).
39
What are the sources of working capital?
Working capital comes from various sources such as:
* Net income from operations
* Selling other assets
* Issuing long-term debt instruments
* Selling stock
* Cash reserves and owner's savings in smaller businesses.
40
What is capital budgeting?
Capital budgeting is a way of setting aside reserves for major expenditures.
41
What does capitalization involve?
Capitalization involves techniques for calculating the value of a property.
42
True or False: Real estate is a highly liquid asset.
False.
43
Fill in the blank: Working capital is often derived from _______.
net income from operations.
44
What is the time frame typically associated with working capital?
Thirty to ninety days.
45
How can corporations increase their working capital?
Corporations can increase their working capital by:
* Issuing long-term debt instruments, such as bonds
* Selling stock.
46
What role do REITs play in working capital?
REITs sell stock and invest the proceeds in real estate.
47
What is the main use of working capital?
To purchase assets, pay off debt, and make up deficits from operations
48
How does depreciation affect working capital?
Depreciation adds to working capital and helps defer taxes
49
What are capital reserves?
Money set aside for future major renovations, improvements, or purchases
50
What is the significance of capital budgeting?
It involves decision making about the use of reserves for improvements
51
Fill in the blank: NOI measures the ability to cover _______.
[day-to-day operating expenses]
52
What does debt service represent?
The amount of money borrowed to acquire the property
53
What does capital budgeting focus on?
The property's future financial needs
54
Name three features in real estate that may require substantial capital outlays.
* Major renovation programs
* Swimming pools and recreational facilities
* Complete replacement of major structural components
55
True or False: Capital assets are often acquired without debt.
False
56
Fill in the blank: Capital improvements may involve _______.
[debt]
57
What type of debt is generally associated with working capital?
Short-term debt
58
What is one example of a capital asset?
A house or condominium
59
What are two examples of large equipment that may need replacement?
* Furnaces
* Elevators
60
Fill in the blank: Capital budgeting may also involve dealing with _______.
[debt]
61
What is a key factor in the life cycle of a building?
Maintenance preserves the physical life of property.
62
What becomes obsolete over time in a building?
Fixtures, appliances, decor, and the building itself.
63
What must be put in place for replacing and restoring a building's features?
A plan by the owner and site manager.
64
How long should cash reserves be planned for?
At least five years.
65
Why is a long-term view important in real estate?
Buildings are constructed to last and investors keep their money for decades.
66
What is more economical than sudden changes and emergency work?
Planned replacements and improvements.
67
Who generally makes decisions about capital budgeting for major improvements?
The owner of the property.
68
What may some owners request regarding cash reserves?
To be deducted from the property's cash flow for future capital expenses.
69
What are the possible sources of capital for needed expenditures?
* Property's cash flow at the time of expenditure
* Advances from owner equity
* Refinancing
* Additional financing
70
What happens if the owner does not wish to set aside reserves?
Capital expenditures will still likely be needed at some point.
71
What does financing capital improvements out of working capital mean?
Using income to pay for needed capital expenditures instead of cash reserves.
72
What is the role of cash flow in capital expenditures?
It may have to come directly out of cash flow.
73
Fill in the blank: The capital budget shows the ______.
[allocation of funds]
74
True or False: Cash reserves should be taken from the property's cash flow.
True.
75
What is a capital budget?
A capital budget specifies annual reserve amounts and expenditures for capital improvements.
## Footnote
It is used to plan for major restoration and renovations in real estate management.
76
Who typically prepares a capital budget?
Real estate managers, often in collaboration with architects and engineering firms.
## Footnote
They work together to draw up detailed plans for major restoration projects.
77
What does the capital budget reflect?
The owner and manager's plans for renovation and replacement, as well as the sources of funds.
## Footnote
It includes reserves for capital improvements that have been set aside.
78
Why are capital expenses kept separate from operating expenses?
Due to tax treatment differences between normal daily business expenses and capital expenses.
## Footnote
Capital assets last longer and may receive special tax treatment.
79
How are capital expenses typically treated for tax purposes?
They may be deducted in the year they are completed or depreciated over several years.
## Footnote
The treatment often depends on the amount and type of expense.
80
What is the formula to determine the yearly amount to place in reserves for capital improvements?
Estimated future capital needs ÷ number of years until capital is needed.
## Footnote
This helps in planning for major improvements.
81
Fill in the blank: Capital expenses will be depreciated over a specified period of _______.
[several years]
82
What is one approach to budgeting capital?
Divide and accumulate the total amount needed over the years until it is required.
## Footnote
For example, setting aside a specific amount each year to reach the total needed for renovations.
83
If the total renovation cost is $100,000 and it is needed in four years, how much should be set aside each year?
$25,000.
## Footnote
This is calculated as $100,000 ÷ 4.
84
What is the time value of money?
The concept that money invested will grow over time due to interest.
85
What is the yearly interest rate mentioned in the example?
5 percent
86
Calculate the total amount after 1 year if $25,000 is invested at 5 percent interest.
$26,250
87
What is the total amount after 2 years of investing $25,000 each year at 5 percent?
$53,812.50
88
What is the total amount after 3 years of investing $25,000 each year at 5 percent?
$82,753.13
89
What is the total amount after 4 years of investing $25,000 each year at 5 percent?
$113,140.78
90
If you invest $25,000 each year, what is the total capital you aim to accumulate?
More than $100,000
91
What technique is used to calculate the amount to set aside each year at a specific interest rate?
Discounting
92
True or False: Taxes do not affect decision-making about debt service and capital budgeting.
False
93
What special treatment do debt service and capital expenditures receive?
Special tax treatment
94
Why is it important to keep current of federal and local tax laws?
To understand their financial effects on debt service and the use of capital.
95
Fill in the blank: Properly invested money will _______.
[grow]
96
What is one reason an owner may not want to set up cash reserves?
It may not seem like an option, but it is a situation that does happen sometimes.
## Footnote
This indicates that some owners may prefer to allocate funds differently.
97
How can capital for improvements be sourced?
From cash flow, especially if the property runs a surplus for several years.
## Footnote
Improvements can be funded directly from the cash flow generated in a profitable year.
98
What is a capital budget?
A budget set up to add a certain amount each year to reach the needed sum.
## Footnote
A capital budget can help in planning for significant expenses like renovations.
99
What can the capital budget include?
Its own savings and investment goals.
## Footnote
Cash from the operating surplus can be invested and reserved for future needs.
100
What is one of the goals of managing a property?
Capital appreciation.
## Footnote
Owners aim for the property value to increase over time for a profitable sale.
101
Why do most owners invest in real estate?
They believe it is a good investment with long-term value appreciation.
## Footnote
This belief is often based on the potential for increased property values over time.
102
What external factors can increase a property's market value?
* Improved market conditions
* Short supply
* Inflation
* Changes in tax laws
## Footnote
These factors are often beyond the site manager's control.
103
What can effective property management influence?
Increasing NOI through cost control and careful budgeting.
## Footnote
NOI stands for Net Operating Income and is crucial for property valuation.
104
What additional methods can enhance property value?
* Managing innovatively
* Adapting and rehabilitating properties
* Refinancing
## Footnote
These strategies can lead to improved financial performance and property appeal.
105
What does capitalization involve?
Determining an estimate of a property's value from its income or its rate of return.
## Footnote
This is a key concept in real estate valuation.
106
What does capitalization relate to?
Income, value, and rate
## Footnote
Capitalization involves ratios that express relationships among these elements.
107
In capitalization, what is the rate usually based on?
A property's annual expected yield
## Footnote
This rate helps in assessing the potential return on investment.
108
What is the 'income' typically involved in capitalization?
NOI (Net Operating Income)
## Footnote
NOI is a key financial measure used in property valuation.
109
What does the IRV formula stand for?
Income, Rate, Value
## Footnote
The IRV formula is a fundamental concept in real estate finance.
110
What is the IRV formula?
Income ÷ Rate = Value
## Footnote
This can also be expressed algebraically as I/R = V.
111
How is income calculated using the IRV model?
Value x Rate = Income
## Footnote
This formula highlights how income is derived from property value and the rate of return.
112
Fill in the blank: The IRV formula is used to find the _______ of a property.
Value
113
True or False: The value of a property is irrelevant in decision making about improvements.
False
## Footnote
The value is central to decisions regarding spending on improvements and renovations.
114
What does NOI stand for?
Net Operating Income
## Footnote
NOI is a critical measure for evaluating property performance.
115
What equation relates income, rate, and value?
income/rate = value
116
What does NOI stand for?
Net Operating Income
117
What is a good measure of a property's financial health?
Net Operating Income (NOI)
118
How does income capitalization estimate the value of a property?
It relies specifically on a single year's NOI
119
What is the formula to calculate property value using NOI?
NOI / capitalization rate = value
120
What is a capitalization rate?
The percentage used to convert net operating income into an estimate of a property's value
121
What are the alternative names for the capitalization rate?
* Overall Rate of Return (OAR) * Overall Capitalization Rate
122
What effect do higher cap rates have on property values?
Higher cap rates result in lower values
123
What is the value of a property with an NOI of $115,000 and a cap rate of 10 percent?
$1,150,000
124
If a property is purchased for $1 million and yields 8.75 percent annually, what is its NOI?
$87,500
125
What is the formula to calculate NOI from property value and capitalization rate?
V × R = I (the NOI)
126
Fill in the blank: The income capitalization method is used by __________.
real estate managers and appraisers
127
True or False: Lower cap rates give lower property values.
False
128
What does the income capitalization method estimate?
The value of a property based on its NOI
129
What is the formula to calculate NOI?
V x R = I (the NOI)
## Footnote
Where V is the property value, R is the rate, and I is the income.
130
If a property is valued at $1,000,000 and yields an 8.75% return, what is its NOI?
$87,500
## Footnote
Calculation: $1,000,000 × 0.0875 = $87,500.
131
What is the formula to calculate the cap rate?
I/V = R
## Footnote
Where I is the income, V is the property value, and R is the cap rate.
132
What is the cap rate for a property purchased for $3.25 million with an NOI of $295,000?
9.07 percent
## Footnote
Calculation: 295,000 ÷ 3,250,000 = 0.0907.
133
Which year's NOI is generally recommended for capitalization?
Next year's NOI
## Footnote
This emphasizes the importance of accurate forecasts.
134
Why does the choice of year for capitalization matter?
It affects setting a property's market value
## Footnote
The rules are informal, flexible, and can vary by locale.
135
What can lead to disagreement between buyers and sellers regarding property valuation?
The years used for capitalization
## Footnote
This can change as the market changes.
136
Who can accurately calculate cap rates and adjust NOI?
Appraisers
## Footnote
They have greater skill than individuals with limited training.
137
Where can accurate cap rates be sourced from?
Comparable properties, appraisers, major buyers like pension funds
## Footnote
Ensure comparables are similar in age, square footage, design, and location.
138
What are some publications you can consult for cap rates?
National Real Estate Index, other brokers, banks, and lenders
## Footnote
These sources can provide valuable market insights.
139
What is the formula for free-and-clear return?
NOI ÷ total property cost
140
What is another name for free-and-clear return?
Income yield
141
Calculate the free-and-clear return for a property with NOI of $140,000 and total property cost of $1,100,000
0.127 or 12.7 percent
142
What is the formula for overall capitalization rate (cap rate)?
income ÷ value
143
If the income is $140,000 and the value is $1,100,000, what is the cap rate?
0.127 or 12.7 percent
144
What assumption does the free-and-clear return make about property ownership?
The property is owned outright, without debt
145
What does the cap rate relate mathematically?
Income to value
146
What is the formula for return on investment (ROI)?
NOI ÷ total capital investment
147
If an owner has invested $750,000 in a building and the NOI is $175,000, what is the ROI?
0.233 or 23.3 percent
148
What does the capital investment represent in the ROI formula?
Money taken from the owner's cash reserves
149
True or False: Debt is included in the total capital investment for calculating ROI.
False
150
What is the return on investment (ROI) in this case?
23.3 percent
## Footnote
Calculated as $175,000 ÷ $750,000
151
What does the use of NOI limit in financial performance measures?
Annual measures of financial performance
## Footnote
NOI stands for Net Operating Income
152
Fill in the blank: The return on investment is calculated as _______.
Net Income ÷ Total Investment
153
True or False: The ratios discussed focus on monthly figures.
False
## Footnote
The ratios focus on annual figures
154
What is the formula for calculating return on investment?
Net Income ÷ Total Investment
## Footnote
This formula helps assess profitability
155
What does the time value of money describe?
The time value of money describes the idea that money available now is worth more than the same amount in the future due to its potential earning capacity.
156
What purposes do capital budgets serve?
Capital budgets serve to plan for long-term investments and expenditures, ensuring that funds are allocated efficiently for projects that will enhance the organization's value.
157
Why are capital expenses kept separate from other expenses?
Capital expenses are kept separate from other expenses to accurately track long-term investments and their impact on an organization's financial position.
158
What is capitalization?
Capitalization is the process of recognizing a cost as an asset, rather than an expense, on the balance sheet, reflecting its expected future benefits.
159
What is capital?
Money or property that can be used to create more wealth
## Footnote
Capital can include assets that generate income or appreciate in value.
160
What is the time value of money?
A concept showing how an investment will grow over the years it is invested
## Footnote
Investors expect their investments to appreciate over time.
161
What do property owners expect when buying real estate?
That the value of the property will go up over time
## Footnote
This expectation applies to various types of properties such as office buildings and shopping centers.
162
What is capital budgeting?
Decision making about the use of reserves to pay for improvements
## Footnote
Improvements may include renovations, recreational facilities, and major structural replacements.
163
What types of expenses do tax laws treat differently?
Normal daily business expenses and capital expenses
## Footnote
Capital expenses are recognized for their long-term nature and special treatment.
164
How are capital expenses typically treated for tax purposes?
They may be deducted in the year finished but usually divided over several years
## Footnote
This treatment reflects the lasting nature of capital assets.
165
What is capitalization in real estate?
The process of calculating the relationship between income, rate of return, and value
## Footnote
It involves using NOI and the rate of return for comparable properties.
166
Fill in the blank: Capital budgeting involves decision making about the use of _______.
reserves
## Footnote
Reserves are funds set aside for specific purposes, including capital improvements.
167
True or False: Capital expenses can be fully deducted in the year they are incurred.
False
## Footnote
Capital expenses are usually spread out over several years for tax purposes.
168
What is the total cost of a $15,000 home-improvement loan from Cabinet Cabana at 8 percent interest over five years?
$22,050
## Footnote
Calculated using the formula FV = P x (1 + r)^n, where P is the principal, r is the interest rate, and n is the number of years.
169
What is the total cost of a $15,000 home-improvement loan from the bank at 9 percent interest over four years?
$21,150
## Footnote
Calculated using the formula FV = P x (1 + r)^n, where P is the principal, r is the interest rate, and n is the number of years.
170
How much is earmarked as a down payment for the renovation?
$5,000
171
How much do you want to finance for the renovation after the down payment?
$15,000
172
What is the interest rate offered by the Cabinet Cabana finance company for the home-improvement loan?
8 percent
173
What is the interest rate for home-improvement loans at the bank?
9 percent
174
Fill in the blank: The total cost of a home-improvement loan from the Cabinet Cabana after five years is _______.
$22,050
175
Fill in the blank: The total cost of a home-improvement loan from the bank after four years is _______.
$21,150
176
True or False: The bank offers a better financing option than Cabinet Cabana for a home-improvement loan.
False
177
What is the total cost of the kitchen renovation using Cabinet Cabana credit?
$27,050
## Footnote
This cost includes the additional fees associated with the credit.
178
What is the total cost of the kitchen renovation using financing from the bank?
$26,150
## Footnote
This cost reflects a lower additional fee compared to Cabinet Cabana credit.
179
Which loan has a shorter term but a higher rate?
The bank's loan
## Footnote
This implies that while the term is shorter, the interest rate is higher.
180
What is the monthly payment for the renovation using Cabinet Cabana credit over 60 months?
$367.50
## Footnote
Calculation: $22,050 ÷ 60 months.
181
What is the monthly payment for the renovation using bank financing over 48 months?
$440.63
## Footnote
Calculation: $21,150 ÷ 48 months.
182
How much does Cabinet Cabana credit raise the cost of the renovation?
$7,050
## Footnote
This is the additional cost incurred when using Cabinet Cabana credit.
183
How much does the bank's financing raise the cost of the renovation?
$6,150
## Footnote
This is the additional cost incurred when using bank financing.
184
True or False: Borrowing for a shorter term is generally more expensive for smaller projects.
False
## Footnote
For smaller projects, borrowing for a shorter term is usually less expensive.
185
In real estate, what may provide better leverage?
Borrowing large sums of money for a long time
## Footnote
This is due to the long-term nature of real estate investments.
186
What amount does the board need to set aside each year to reach its goal of $50,000?
$12,500
## Footnote
This is based on Option 1 which suggests saving this amount annually for four years.
187
What is the potential future value (FV) after two years in the mutual fund starting with $25,000 at a rate of 15%?
$33,000
## Footnote
Calculated as $25,000 x (1 + 0.15)^2 = $25,000 x 1.32.
188
What is the possible value after two years in the money market fund starting with $33,000 at a rate of 4%?
$35,640
## Footnote
Calculated as $33,000 x (1 + 0.04)^2 = $33,000 x 1.08.
189
Which option among the proposals is considered the best use of the association's money?
Choice 3
## Footnote
It is considered the best because it utilizes the time value of money for growth, even though it does not meet the exact target.
190
True or False: Option 1 proposes to take a portion of the capital budget from the yearly surplus.
True
## Footnote
This option suggests better utilization of funds through investment.
191
Fill in the blank: The investment in Option 2 would be more likely to reach the goals if more than one _______ is made.
investment
## Footnote
This indicates a strategy for diversifying investments to meet financial goals.
192
What amount does the investment in Option 3 start with?
$40,000
## Footnote
This is the initial amount used to calculate the future value.
193
What growth factor is used for the investment in Option 3 at a rate of 5.5%?
1.24
## Footnote
This is derived from the calculation of $40,000 x (1 + 0.055) for the growth over the specified period.
194
How is the value of a property calculated using NOI and cap rates?
$210,000 ÷ [cap rate]
## Footnote
Example calculations:
* For cap rate 0.085: $2,470,588.20
* For cap rate 0.095: $2,210,526.30
* For cap rate 0.105: $2,000,000.00
195
What do buyers generally prefer regarding property prices?
A price close to the lowest value
## Footnote
This reflects the most recent information about cap rates.
196
What cap rate was stated in the lesson?
0.0747, or roughly 7.5 percent
197
How is the free-and-clear return calculated?
free-and-clear return = NOI ÷ total property cost
## Footnote
The free-and-clear return is also 0.7474, or roughly 7.5 percent.
198
What is the formula for calculating return on investment (ROI)?
ROI = NOI ÷ total capital investment
199
What was the return on investment calculated in the lesson?
21.66 percent
200
Fill in the blank: The value of the property if the NOI is $210,000 and the cap rate is 0.085 is _______.
$2,470,588.20
201
Fill in the blank: The value of the property if the NOI is $210,000 and the cap rate is 0.095 is _______.
$2,210,526.30
202
Fill in the blank: The value of the property if the NOI is $210,000 and the cap rate is 0.105 is _______.
$2,000,000.00
203
True or False: Sellers might insist on the lowest cap rate to achieve the highest value.
True
204
What factors can influence offers from potential buyers?
Regional differences
## Footnote
Buyers may bid low in some areas and negotiate, while in others, little negotiation is allowed.
205
What is working capital?
The amount of funds a company has on hand to conduct business over the short term (thirty to ninety days)
## Footnote
Working capital can come from net income from operations or other assets sold to provide capital.
206
What are the commonly used sources of working capital?
Sources include:
* Net income from operations
* Other assets sold
* Issuing long-term debt instruments
* Selling stock
* Cash reserves and owner's savings in smaller businesses
## Footnote
REITs sell stock and invest proceeds in real estate.
207
What is a capital asset?
Land, buildings, and equipment
## Footnote
In real estate, capital assets often refer to land and its improvements.
208
What does compounding mean?
Interest is paid on the principal and previous interest
## Footnote
Compound interest refers to the process of paying interest on interest.
209
What are some typical capital expenses?
Typical capital expenses include:
* Major renovation programs
* Swimming pools and recreational facilities
* Parking structures
* Restorations of historic facades and interiors
* Replacement of major structural components (roofs, windows, etc.)
* Replacement of large equipment (furnaces, elevators, etc.)
## Footnote
Capital budgets fund these expenses.
210
Why are capital budgets not included in operating budgets?
Capital expenses are kept separate from operating expenses
## Footnote
This separation is due to the nature and purpose of capital expenditures.
211
What variables does the IRV equation relate?
Income, rate (of return), and value.
## Footnote
In direct capitalization, the income typically refers to Net Operating Income (NOI), the rate of return is often represented as the capitalization rate (cap rate), and the resulting figure is the property's value.
212
What is the purpose of a cap rate?
To convert net operating income into an estimate of a property's value.
## Footnote
A higher cap rate results in a lower property value, while a lower cap rate results in a higher property value.
213
What does the return-on-investment ratio measure?
The relation between NOI and the amount of capital invested in the property.
214
Fill in the blank: The IRV equation stands for _______.
Income, Rate, Value.
215
True or False: A higher cap rate indicates a higher property value.
False.
216
What is commonly used as the income in the IRV equation?
Net Operating Income (NOI).
217
What does a lower cap rate indicate about a property’s value?
A higher property value.
