Reading 46: Investment Analysis- LOS c～ Q2

investing, interest, following, Investment, building

Q2. Assume you are considering investing in an apartment building with the following estimated financial characteristics:

Net operating income (NOI) = $64,000.
Net operating income growth rate = 4% per year.
Tax depreciation = $25,000 per year.
Annual interest expense = $32,000.
Annual debt service expense = $35,000.
Equity investors marginal income tax rate = 36%.
Investment horizon = 2 years.
Net purchase price = $500,000.
Equity investment = 30%.
Gross sale price = $650,000.
Cost of sale = $50,000.
Outstanding mortgage balance at time of sale = $385,000.
The tax rate on recaptured depreciation = 28%.
Long-term capital gains tax rate = 20%.
Required after tax return on equity = 6%.

The net present value (NPV) and internal rate of return (IRR) for this investment are closest to:

NPV IRR

A) $61,095 27%

B) $51,977 19%

C) $99,994 47%

[此贴子已经被作者于2009-3-10 10:22:11编辑过]

[2009] Session 13 - Reading 46: Investment Analysis- LOS c～ Q2

Q2. Assume you are considering investing in an apartment building with the following estimated financial characteristics:fficeffice" />

Net operating income (NOI) = $64,000.
Net operating income growth rate = 4% per year.
Tax depreciation = $25,000 per year.
Annual interest expense = $32,000.
Annual debt service expense = $35,000.
Equity investors marginal income tax rate = 36%.
Investment horizon = 2 years.
Net purchase price = $500,000.
Equity investment = 30%.
Gross sale price = $650,000.
Cost of sale = $50,000.
Outstanding mortgage balance at time of sale = $385,000.
The tax rate on recaptured depreciation = 28%.
Long-term capital gains tax rate = 20%.
Required after tax return on equity = 6%.

The net present value (NPV) and internal rate of return (IRR) for this investment are closest to:

NPV IRR

A) $61,095 27%

B) $51,977 19%

C) $99,994 47%

Correct answer is A)

Taxes Payable Computation:
	Year-1	Year-2
NOI (g = 4%)	$64,000	$66,560
Less depreciation	(25,000)	(25,000)
Less interest	(32,000)	(32,000)
Taxable income	7,000	9,560
times tax rate	0.36	0.36
Income taxes payable	$2,520	$3,442

Cash flow after taxes (CFAT) Computation:
	Year-1	Year-2
NOI (g = 4%)	$64,000	$66,560
Less debt service	(35,000)	(35,000)
Before tax cash flow	$29,000	$31,560
Less taxes payable	(2,520)	(3,442)
CFAT	$26,480	$28,118

Equity reversion after taxes (ERAT) = net selling price – mortgage balance – taxes.
First, compute taxes.

Recaptured depreciation = 2 × $25,000 = $50,000

Tax on recaptured depreciation = $50,000 × 0.28 = $14,000

Total gain on sale = net selling price – adjusted basis

Net selling price = sales price – cost of sale = $650,000 ? 50,000 = $600,000

Adjusted basis = cost - accumulated depreciation = $500,000 ? 50,000 = $450,000

Total gain = $600,000 ? 450,000 = $150,000.

Long-term capital gain tax = capital gains tax rate x (total gain - recaptured depreciation)

= 0.20 × (150,000 ? 50,000) = 0.20 × 100,000 = $20,000

Total taxes payable = tax on recaptured depreciation + long-term capital gains tax

= $14,000 + $20,000 = $34,000

ERAT = net selling price – mortgage balance – taxes.

= 600,000 ? 385,000 ? 34,000 = $181,000

Relevant Cash Flows

Year	0	1	2
EI^*	-$150,000
CFAT_t		$26,480	$28,118
ERAT			$181,000

^*Equity investment= 0.30 × 500,000 = $150,000

Using your TI BAII Plus:

[CF] [2nd] [CLR WORK]
-150,000 [+/–] [ENTER] [↓ ]
26,480 [ENTER] [↓] [↓]
209,118 [Enter] (Note: CF₂ = 28,118 + 181,000)
[NPV] {6} [ENTER] [↓]
[CPT] = $61,095.41
[IRR] [CPT] = 27.23%