CHP 60 - Investment

Question 1

Compounded Appreciation

Answer 1

Appreciated Value = Beginning Value * (1+annual rate) * (1+ annual rate)

Question 2

Compounded Appreciation Example

A $100,000 property is expected to appreciate 5% each year for the next 3 years. What will be its appreciated value at the end of this period?

Answer 2

Appreciated value = $100,000 x 1.05 x 1.05 x 1.05 = $115,762.50

Question 3

Income AKA

Answer 3

NOI

Question 4

Rate AKA

Answer 4

Rate of return, cap rate or percent yield

Question 5

Value AKA

Answer 5

Value, price or investment amount

Question 6

An office building has $200,000 net income and sold for $3,200,000. What was the rate of return?

Answer 6

Rate = ($200,000 NOI ÷ 3,200,000 price) = 6.25%

Question 7

An office building has $200,000 net income and a cap rate of 6.25%. What is its value?

Answer 7

Value = ($200,000 ÷ 6.25%) = $3,200,000

Question 8

An office building sells for $3,200,000 at a cap rate of 6.25%. What is its NOI?

Answer 8

Income = $3,200,000 x 6.25% = $200,000

Question 9

A homeowner paid $185,000 for a house three years ago. The house sells today for $239,000. How much has the property appreciated?

Answer 9

(Purchase price - current market value)

(239,000 - 185,000 = 54,000)

and (2) dividing the result by the original price

(54,000 / 185,000 = 29) or 29%.

Question 10

A property sells for $180,000 one year after it was purchased. If the annual appreciation rate is 10%, how much did the original buyer pay for it?

Answer 10

The selling price is 110% of the purchase price. Therefore, the purchase price is the selling price divided by 1.1 (110%). $180,000 / 1.1 = $163,636.

Question 11

An office building has $300,000 net income and sold for $4,800,000. What was the rate of return?

Answer 11

Rate = ($300,000 NOI ÷ 4,800,000 price) = 6.25%

Question 12

An office building has $400,000 net income and a cap rate of 8.25%. What is its value?

Answer 12

Value = ($400,000 ÷ 8.25%) = $4,848,485

Question 13

Equity =

Answer 13

Current market value - Current loan balance(s)

Question 14

Equity Example

Example. A home that was purchased for $150,000 with a $100,000 loan is now worth $300,000. The current loan balance is $80,000. What is the homeowner’s equity?

Answer 14

Equity = $300,000 value - $80,000 debt = $220,000

Question 15

Deriving Net Income

Answer 15

NOI = Potential rent - Vacancy loss + Other income - Operating expenses

Question 16

NOI does NOT include….

Answer 16

Debt payments

Question 17

Deriving Net Income Example. A building has 10 office suites generating annual potential rent of $10,000 each. Vacancy = 10% and annual expenses are $35,000. Vending machines yield $5,000. What is the NOI?

Answer 17

$100,000 rent - 10,000 vacancy + 5,000 other income - 35,000 expenses = $60,000 NOI

Question 18

Cash Flow =

Answer 18

Cash flow = (Net Operating Income - Debt service) where debt service is PI payment

Question 19

Cash Flow Example. A building generates $100,000 NOI after expenses and has a debt payment of $40,000. What is its cash flow?

Answer 19

Cash flow = $100,000 - 40,000 = $60,000

Question 20

Difference b/t NOI and cash flow

Answer 20

Cash flow = NOI subtract debt service

If there is no loan NOI and cash flow are the same

Question 21

Capital Gain =

Answer 21

Amount realized - Adjusted basis, where Amount realized = Sale price - Selling costs

Question 22

Adjusted Basis=

Answer 22

Beginning basis + Capital improvements - Total depreciation

Question 23

Depreciable basis =

Answer 23

Initial property value + Capital improvements - Land value

Question 24

Example. An apartment building was purchased for $500,000, with the land value estimated to be $100,000. The owner added a $100,000 parking lot. The property was depreciated on a 40-year schedule (for present purposes!). Three years later the property sold for $700,000, and selling costs were $50,000. What was the capital gain? A good tip is to work example backwards from last formula to first formula.

Answer 24

depreciable basis = $500,000 purchase price + 100,000 parking lot - 100,000 land = $500,000
total depreciation = ($500,000 ÷ 40 years) x 3 years = $37,500
adjusted basis = $500,000 purchase price + 100,000 parking lot - 37,500 total depreciation = $562,500
amount realized = $700,000 sale price - 50,000 selling costs = $650,000
capital gain = $650,000 amount realized - 562,500 adjusted basis = $87,500

Question 25

Tax Liability =

Answer 25

Tax liability = (NOI + Reserves - Interest expense - Depreciation) x Tax bracket

Question 26

Tax Liability Example

Answer 26

Example. An office building has NOI of $200,000, an annual reserve expense of $20,000, interest expense of $130,000 and annual depreciation of $50,000. Assuming a 28% tax bracket, what is its income tax liability?

Tax liability = ($200,000 + 20,000 - 130,000 - 50,000) x 28% = $11,200

Question 27

ROI =

Answer 27

NOI/Price

Question 28

ROE (Return on Equity)

Answer 28

ROE = cash flow/equity

Question 29

What was his capital gain?

An investor sold a property for $3 million and incurred $300,000 in selling costs. He originally paid $2.4 million 3 years ago and has depreciation expense totaling $150,000.

Answer 29

Capital gain = (amount realized – adjusted basis). Here, the owner realized $2,700,000. The adjusted basis is 2,400,000 – 150,000, or 2,250,000. The gain is therefore 450,000.

Question 30

What is Mary’s adjusted basis in the house if she now sells the house for $150,000?

Mary Bright bought a home for $120,000, paying $24,000 down and taking a mortgage loan of $96,000. The following year she had a new roof put on, at a cost of $5,000.

Answer 30

The basic formula for adjusted basis is: Beginning Basis + Capital Improvements - Exclusions and Credits = Adjusted Basis. Mary’s adjusted basis is therefore $120.000 + $5,000 = $125,000. The financing terms and subsequent selling price are not relevant.

Question 31

What is the property’s depreciable basis?

An investor pays $300,000 for a property, $50,000 of which is land, puts $50,000 capital improvements into it, and borrows $250,000 to finance the property.

Answer 31

$300,000 cost minus $50,000 land plus $50,000 capital improvements, or $300,000. The loan is irrelevant.

Question 32

What is the homeowner’s capital gain?

A principal residence is bought for $180,000. A new porch is added, costing $7,000. Five years later the home sells for $220,000, and the closing costs $18,000.

Answer 32

Gain = amount realized ($220,000 - 18,000) - adjusted basis ($180,000 + $7,000) = ($15,000).

Question 33

What is its income tax liability?

An income property has a net income of $20,000, interest expense of $12,000, cost recovery (depreciation) of $3,000, and a tax rate of 28%.

Answer 33

net operating income (NOI) 20,000
- interest expense - 12,000
- cost recovery expense - 3,000
= taxable income = 5,000
x tax rate x (28%)
= tax liability = 1,400

Question 34

An investment property generates a cash flow of $50,000 and appraises for $700,000. What is the owner’s return on investment?

Answer 34

ROI = $50,000 ÷ 700,000 = 7.14%

Question 35

An investment property generates a cash flow of $200,000. The owner has $450,000 equity in the property. What is the owner’s return on equity?

Answer 35

ROE= $200,000 ÷ 450,000 = 44%