Consider a real estate investment that is 35 percent debt financed and 65 percent equity financed. The total mortgage cost for this property is 10 percent and the cost of equity financing is at a recent high of 13 percent. The tax rate is 35%. The capitalization rate for this investment as determined using the band-of-investments method is closest to: A) 11.80%. B) 11.95%. C) 11.65%. D) 12.85%.
I get B but I think I may be missing something. .35(10) + .65(13) = 11.95%
total mortgage cost , then dont consider sinking fund factor? B
Since they gave you the TOTAL mortgage cost the sinking fund factor is already included. If they had only given you the explicit mortgage cost you woudl have to figure this out, but additional information would be needed (term of loan etc).
I am with you on B. More importantly this cap rate could only be used to compare other properties financed with the same d/e ratio and with a similar mortgage cost.
so tax rate is irrelevant?
Yes, but I can’t tell you why…???
The rate is totally irrelavant when you consider the band of investment method. and the captalization rate is: C0 = (mortgage weight x mortgage cost) + (equity weight x equity cost).
I’d go with B too… just revised this last night…so feel pretty confident… Nib - there are no twists in this…i thought about it too…, but as mwvt said…TOTAL mortgage cost is given…so it’s just a quick weighted average… tax has no affect…