Real Estate Problem

Allison Fletcher is analyzing a real estate investment with the following characteristics: • Purchase price is $2.5 million. • Down payment is $500,000, financing at 10%, with 20 annual end-of year payments. • Gross annual rents are $300,000. • Depreciation is $60,000 per year. • Maintenance and taxes are $35,000 per year. If Fletcher is in a 35% marginal income tax bracket, the first year after-tax cash flow is closest to: A. -$19,000. B. $5,000. C. $28,000. D. $40,500.


is it C? Borrow 2M, the annual payment would be: N=20, /i/Y=10, PV=-2,000,000, FV=0, cpt PMT=234,919.25, of which in the first year interest is 10%*2,000,000=200,000 and principal is 34,919.25 After tax net income is: (300,000-35,000-60,000-200,000)*(1-0.35)=3,250 After tax cash flow = NI+Depreciation-principal repayment=3,250+60,000-34,919.25=28,330.75

I got C as well, same method as map1. map1 is right… as always. One interesting note is how this is very comparable to a capital lease: you calculate interest expense as a cash outflow from operations, and an payment above and beyond the interest expense is there to amortize the outstanding liability (in this case, the mortgage). This is a cash outflow from financing.

Thanks map1 and theAliMan. it’s very helpful.

Why do the round of the dollar values! Gives me less confidence in my answer.