Mid-term 1
Spring 2003
Finance 264
Instructor: Petry
Name___KEY_______
SSN______________
Choose the best answer from the choices provided. Please verify that you have 8 pages
with 36 questions, plus two formula sheets. You have 1 hour and 20 minutes for the
exam. Sign and turn in both your bubble sheet, and the test packet. GOOD LUCK!
1) _____ If an individual wanted to have $8,000 at the end of five years, how much
would he have to deposit today into a savings account that earns interest at an annual rate
of 7.5%, and compounds quarterly?
a) $5,504.74
b) $5,517.44
c) $5,536.16
d) $5,572.47
e) none of the above
ANSWER: B
2) _____ Calculate the monthly payment required to fully amortize over 30 years a
$125,000 mortgage loan, assuming an 8.25 percent annual interest rate.
a) $939.08
b) $947.20
c) $1,220.36
d) $1,249.54
e) none of the above
ANSWER: A
3) _____ What is the annual rate of return to the lender offering an $95,000, 30-year
mortgage loan with monthly payments of $756.23?
a) 7.40%
b) 7.75%
c) 8.88%
d) 9.55%
e) none of the above
ANSWER: C
4) _____ The debt service coverage ratio is typically defined as:
a) the ratio between the value of a property and its potential gross income.
b) the ratio between the net operating income of a property and its value.
c) the ratio between the annual debt service on a property and the original loan
amount.
d) the ratio between the net operating income of a property and its annual debt
service.
e) none of the above.
ANSWER: D
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5) _____ What is the IRR, assuming an industrial building can be purchased for $250,000
and is expected to yield cash flows of $18,000 for each of the next five years, and be sold
at the end of the fifth year for $280,000?
a) 0.09%
b) 4.57%
c) 9.20%
d) 10.37%
e) none of the above
ANSWER: C
Use the following information to answer the next 3 questions (#6-8).
You are considering purchasing an office building for $2,500,000. You expect the PGI in
the first year to be $450,000; vacancy and collection losses to be 9 percent of PGI; and
operating expenses to be 42 percent of EGI.
6) _____ What is the estimated net operating income (NOI) for the first year?
a) $170,100
b) $171,990
c) $234,900
d) $237,510
e) none of the above
ANSWER: D
7) _____ Using the purchase price, what is the implied first year overall capitalization
rate?
a) 9.5%
b) 10.0%
c) 10.5%
d) 11.0%
e) none of the above
ANSWER: A
8) _____ What is the implied effective (annual) gross income multiplier?
a) 5.56
b) 6.11
c) 16.38
d) 18.00
e) none of the above
ANSWER: B
Use the following information to answer the next 4 questions (#9-12).
Jennifer owns a 12-unit apartment complex. All of the units rent for $750 per month.
Jennifer expects two of the units to be vacant for six months during the next year, and to
lose an additional $750 per year to collection loss. The annual operating expenses are
estimated to be $45,900, and the annual debt service is estimated to be $44,000.
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9) _____ What is the annual potential gross income (PGI) for the property?
a) $9,000
b) $98,250
c) $99,000
d) $108,000
e) none of the above
ANSWER: D
10) _____ What is the debt coverage ratio for the property?
a) 0.84
b) 1.18
c) 1.19
d) 1.21
e) none of the above
ANSWER: C
11) _____ What is the operating expense ratio for the property?
a) .425
b) .464
c) .467
d) .546
e) none of the above
ANSWER: C
12)_____ Assuming that the initial selling price of the property is $500,000 and the loan
amount is $400,000 what is the implied equity dividend rate (EDR)?
a) 8.35%
b) 9.10%
c) 11.97%
d) 18.11%
e) none of the above
ANSWER: A
13) _____ The deduction in taxable income accounting for the inevitable decline in value
and usefulness of the asset due to “wear and tear” and obsolescence is termed:
a) capital loss
b) depreciation
c) loss exposure
d) external obsolescence
e) none of the above
ANSWER: B
14) _____ Selling, or exchanging, a property generates a gain or loss equal to the
difference between the sale price (net of selling expenses) and the property’s:
a) initial basis
b) total depreciation
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c) adjusted depreciable value
d) adjusted basis
e) none of the above
ANSWER: D
15) _____ For purposes of federal income taxes, real estate is classified as one of the
following categories, except:
a) dealer property
b) land
c) investment property
d) trade or business property
e) none of the above
ANSWER: B
16) _____ For purposes of federal income taxes, an apartment complex owned by a
Doctor as a means of generating income, would most likely be classified as which of the
following:
a) dealer property
b) land
c) investment property
d) trade or business property
e) none of the above
ANSWER: D
Use the following information to answer the next 4 questions (#17-20).
You would like to buy a home selling for $200,000. You can obtain a 20 year monthlyl
amortizing loan for 80% LTV with an 8% interest rate with no points, or a 7.5% interest
rate with 1 point, or a 7.0% interest rate with 2.5 points.
17) _____ The effective cost of borrowing for the 8.0% loan, assuming you held the loan
until maturity, would be:
a) 7.0%
b) 7.5%
c) 8.0%
d) 8.5%
e) none of the above
ANSWER: C
18) _____ The effective cost of borrowing for the 7.0% loan, assuming you held the loan
until maturity, would be:
a) 7.0%
b) 7.1%
c) 7.2%
d) 7.3%
e) 7.4%
ANSWER: D
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19) _____ The net loan amount for the 7.0% loan would be:
a) $200,000
b) $180,000
c) $160,000
d) $150,000
e) none of the above
ANSWER: E
20) _____ The effective cost of borrowing on the 7.0% loan, assuming you held it 3 years
would be:
a) 7.0%
b) 7.5%
c) 8.0%
d) 8.5%
e) 9.0%
ANSWER: C
Use the following tables to answer the next 2 questions (#21-22).
Single Taxpayers: 1999 Tax Rate Schedule
If Taxable
Your Tax
Of the Amount
Income is Over But Not Over
Liability Is
Over
0
25,750
15%
0
25,750
62,450
3,862 + 28%
25,750
62,450
130,250
14,138 + 31%
62,450
130,250
283,150
35,156 + 36%
130,250
283,150
---90,200 + 39.6%
283,150
Married Taxpayers: 1999 Tax Rate Schedule
If Taxable
Your Tax
Of the Amount
Income is Over But Not Over
Liability Is
Over
0
43,050
15%
0
43,050
104,050
6,457 + 28%
43,050
104,050
158,550
23,537 + 31%
104,050
158,550
283,150
40,432 + 36%
158,550
283,150
---85,288 + 39.6%
283,150
21)_____ A married couple whose combined annual income equals $110,000.00 has an
average tax rate closest to:
a) 23%
b) 25%
c) 27%
d) 29%
e) 31%
ANSWER: A
22) _____ A married couple whose combined annual income equals $110,000.00 has a
marginal tax rate closest to:
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a) 15%
b) 28%
c) 31%
d) 36%
e) 39.6%
ANSWER: C
23) _____ When approaching a bank with a potential real estate investment, it is
reasonable to expect the bank to require a Debt Coverage Ratio (DCR) in the range of:
a) 1.00-1.10
b) .50-.90
c) 1.40-1.60
d) 1.10-1.20
e) none of the above
ANSWER: E
24) _____ If you were valuing a property based on its cap rate, and you were told that the
property was in a very good neighborhood in Chicago, conveniently located to the “L”,
with a low crime rate, and low vacancy rates, you would most likely use which of the
following cap rates:
a) 4%
b) 8%
c) 12%
d) 16%
e) Impossible to determine
ANSWER: B
Use the following information to answer the next 8 questions (#25-32).
Five years ago you purchased a small apartment complex for $1 million. You borrowed
750,000 at 10% for 25 years with annual payments. The depreciable basis was 800,000
and you have used 27.5 year straight-line depreciation over the five-year holding period.
You sell the property today for 1.5 million, with 6% selling costs. Further assume a 31%
marginal tax rate, a 20% capital gains tax bracket, a 25% recapture tax rate. Do NOT use
the mid-month rule when calculating your answers for this set of questions.
25)______ What was your depreciation expense for year 2?
a) Approximately $25,000
b) Approximately $27,000
c) Approximately $29,000
d) Approximately $31,000
e) Approximately $33,000
ANSWER: C
26)______ Assuming there were no up-front financing costs at the time you purchased
the property, what was the value of the land at that time?
a) $100,000
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b) $150,000
c) $200,000
d) $250,000
e) none of the above
ANSWER: C
27)______ At the time you are selling the property your adjusted basis approximately
equals:
a) 854,545
b) 1,354,545
c) 824,454
d) 145,454
e) None of the above
ANSWER: A
28) _____ The capital gain tax liability is:
a) $75,000
b) $78,000
c) $80,000
d) $86,000
e) None of the above
ANSWER: E
29)_____ Taxes due at sale are closest to:
a) $114,451
b) $116,228
c) $117,362
d) $118,364
e) $119,263
ANSWER: D
30)_____ At the time of sale, the RMB is closest to:
a) $701,334
b) $703,442
c) $705,393
d) $707,996
e) $708,394
ANSWER: B
31) _____ Your After Tax Equity Reversion from the transaction is closest to:
a) $588,194
b) $536,998
c) $243,907
d) $224,670
e) $264,231
ANSWER: A
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32) _____ If you preferred to defer taxes from the sale of the property you could:
a) perform a 1010 swap
b) perform a 1040 switch
c) perform a 1031 exchange
d) perform at a U2 concert
e) none of the above
ANSWER: C
33) _____ Income multipliers:
a) are adequate as the sole indication of a property’s investment worth
b) are consistent across geographical areas
c) are useful as a preliminary analysis tool to weed out obviously unacceptable
investment opportunities
d) relate the property’s price or value to after-tax cash flow
e) none of the above
ANSWER: C
34) _____ Even if the total tax deductions do not exceed net operating income, a portion
of the before-tax cash flow comes to the investor tax free so long as the depreciation
deduction exceeds:
a) mortgage interest
b) principal reduction (amortization)
c) net operating income
d) effective gross income
e) none of the above
ANSWER: B
35) _____ Under current federal income tax law, what is the shortest cost recovery period
available to investors purchasing residential income property?
a) 39 years
b) 19 years
c) 15 years
d) 31.5 years
e) none of the above
ANSWER: E
36) _____ According to the 1986 Tax Reform Act, taxable income from the rental of
actively managed depreciable real estate is classified as:
a) passive income
b) portfolio income
c) passive income if taxable income is negative, active income if taxable
income is positive
d) active (aka ordinary) income
e) none of the above
ANSWER: A
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