Lesson 2 Flashcards
What is the main difference between traditional accounting income statements and the forecasted NOI statements used by appraisers?
The major differences between traditional accounting income statements and the forecasted net operating income statements used by appraisers are due to:
(i) Items included in the calculation of NOI but not included in the income statement. The major items here would be the reserves for replacement. Reserves are not included in the income statement.
(ii) Items excluded in the calculation of NOI but included in the income statement. The major items here would be depreciation expense and interest on the debt.
(iii) Accrued and prepaid expenses. The calculation of NOI assumes all revenues and expenses are paid when received or due. The income statement may be based on either the accrual method or cash method and the extension of such short term credit will cause differences to occur between the calculation of NOI and the net operating income on the Income Statement.
Math Inc. is a company with only two assets. The first is a property that cost $250,000 with $165,000 building and $85,000 land value. The building has an estimated year life of 20 years and is a Class 1 asset (CCA rate 4%). The second asset is a computer exam center which cost $45,000, and has a estimated age life of 6 years, and a Class 8 asset (CCA rate of 20%). Math Inc. uses a straight line method of depreciation for income statement purposes. Assume that neither of these assets will have any salvage value at the end of their lives.
The following figures relate to the financial performance of Math Inc. last year:
Service Revenue $185,000
Expenses:
Labour $70,000
External Technicians 15,000
Computer Disks 2,500
Utilities 1,300
Property Tax 3,600
Insurance 1,000
Replacement Allowance(per computer exam) 7,200
Calculate the after-tax income for Math Inc. (the corporate tax rate is 45%) and produce an income statement for Math Inc. for last years fiscal year-end, December 31.
Math Masters, Incorporated
Income Statement and Income Tax Calculation
For the year ending December 31, 20xx
Service Revenue $185,000
Less:
Labour $70,000
External Technicians - 15,000
Computer Disks - 2,500
Utilities - 1,300
Property Tax - 3,600
Insurance - 1,000
Depreciation Expense - 15,750
= 109,150
Net Income Before Income Tax - $75,850
Less: Income Tax Expense - 37,710
After Tax Net Income = $38,140
Note: Reserves for Replacement are not included on the Income Statement
Depreciation Calculation:
Building: (1 ÷ 20) × 165,000 = 8,250
Computer Exam Centre: (1 ÷ 6) × 45,000 = 7,500
Total Depreciation Expense = 15,750
CCA Calculation: Building: .04 × (165,000) = 6,600 Computer Exam Centre: .20 × (45,000) = 9,000 Total Allowable CCA Claim (first-year rule) = (6,600 + 9,000) × 0.5 = 7,800 Income Tax Calculation: Net Income Before Tax $75,850 \+ Depreciation 15,750 CCA 7,800 Taxable Income $83,800 × 0.45 Income Tax Payable $37,710
An apartment owner obtained a $300,000 mortgage loan at j2=10%. The loan amount is to be amortized over 20 years and payments are made annually, rounded to the next higher dollar. The building (a Class 1 asset) is valued at $500,000 for the purposes of determining capital cost allowance (assumes CCA and depreciation expense are equal).
If the after-tax cash flow is $30,000 per annum and annual taxes are $7,000, what is the after-tax income for the first year of the holding period?
To solve this question, use the relationships below:
NOI NOI
– Interest – Debt Service
– Depreciation = B. T. Cash Flow
= B. T. Income – Taxes
– Taxes = A. T. Cash Flow
= A. T. Cash Flow
Summary
$72,842 $72,842
– 40,750 – 35,842
= 30,994 = 37,000
– 7,000 – 7,000
=$23,994 A. T. Income = $30,000 A.T. Cash Flow
Calculations:
BTCF = $30,000 + $7,000
= $37,000
To solve for NOI, debt service must be determined:
j2 = 10% j1 = 10.25%
$300,000 = Pmt × a[[20,10.25%]]
PMT = $35,841.069117
= $35,842, rounded up to the next higher dollar
Therefore, NOI = BTCF + Debt Service
= $37,000 + $35,842
= $72,842
At this point, we switch to the first relationship from above and work down the equation to solve for after-tax income.
Interest:
Outstanding Balance Year 1 = $294,908
Total Principal Paid Year 1 = $300,000–$294,908 = $5,092
Total Interest Paid Year 1 = Mortgage Pmt–Principal Repayment
= $35,842–$5,092
= $30,750
Depreciation (same as CCA): $500,000 × 4% × ½ = $10,000
Therefore, Before-Tax Income = NOI–Interest–Depreciation = $72,842–$30,750–$10,000 = $32,092 Since taxes = $7,000, after-tax income = $32,092–$7,000 = $25,092
List the steps of an Income Tax Calculation
Net Income Before Tax \+ Depreciation -CCA = taxable income x income tax rate = income tax payable
List the steps of a depreciation calculation
Building = (1/ estimated life) x value = depreciation
Sum all depreciation values for total depreciation
List the steps for the CCA Calculation.
What is the rule for the first and last year?
Building: (CCA rate) x (value) = CCA
First year only allows 50% and last year allows 0%
List the steps of an income statement
Service revenue - expenses - depreciation = net income before income tax - income tax payable = after tax net income
