© 2013 All rights reserved. Chapter 4 Real Estate Investments1 New York Real Estate for Brokers 5 th e By Marcia Darvin Spada Cengage Learning

© 2013 All rights reserved. Chapter 4 Real Estate Investments2 Chapter 4 Real Estate Investments

© 2013 All rights reserved. Chapter 4 Real Estate Investments3 Chapter 4 Key Terms  Adjusted basis  Appreciation  Boot  Capital gain/loss  Cash flow  Cost recovery  Debt Service  Gross income  Leverage  Net operating income  Proforma statement  Rate of return

© 2013 All rights reserved. Chapter 4 Real Estate Investments4  Chapter 4 Key Terms (continued)  Rent role  Straight-line depreciation  Tax depreciation  Tax-deferred exchange  Tax shelter  Valuation

© 2013 All rights reserved. Fundamentals and Analysis of Investments Time value of money Statistical data Proforma schedule Current Rent Roll Chapter 4 Real Estate Investments5

© 2013 All rights reserved. Knowledge of Operating Statements  Gross income is received without deducting expenses  The result of deducting operating expenses is net operating income  Mortgage principal and interest payments are called debt service Chapter 4 Real Estate Investments6

© 2013 All rights reserved. Chapter 4 Real Estate Investments7 Types of Value $ Market $ Investment $ Insurance $ Value in use $ Assessed $ Mortgage Most appraisals estimate market value

© 2013 All rights reserved. Chapter 4 Real Estate Investments8 Evaluation Marketability studies Supply-and- demand studies Highest and Best use studies Land utilization studies Feasibility studies

© 2013 All rights reserved. Investment Strategies Risk Available Financing Holdings Period Planning Leverage Ownership Planning Chapter 4 Real Estate Investments9

© 2013 All rights reserved. Types of Investment Properties TYPES Unimproved Land Office Buildings Apartment Rentals Retail Mixed Developments Offices Hotels/ Motels Chapter 4 Real Estate Investments10

© 2013 All rights reserved. Marketing Investment Properties CCapital improvement budget CCash flow analysis and projection EEngineering review FFeasibility study IIncome and expense analysis LLease review LLegal review and compliance verification MMarketing analysis and/or appraisal RReview of existing and proposed financing TTitle history Chapter 4 Real Estate Investments11

© 2013 All rights reserved. Discounted Investment Property  Foreclosed property-property sold at auction by lender  Short sale-lender allows property to be sold at a loss  Other distressed property-properties in depressed areas or in disrepair Chapter 4 Real Estate Investments12

© 2013 All rights reserved. Commercial Leases  Index lease  Percentage lease  Gross  Net lease (triple-net) lease  Graduated lease Commercial leases generally include lease escalation clauses Chapter 4 Real Estate Investments13

© 2013 All rights reserved. Rate of Return $ Rate of Return Percentage of income that the investor receives back on an investment Tom buys an income property for $175,000. He sells it 6 mos. later for $200,000. What is his percentage of return? Investment x percentage of return = dollars in profit $175,000 x ___ = $25,000 Factor missing: divide and convert decimal to percentage $25,000 ÷ $175,000 = _____ Answer: 7% (rounded for 6 mos; 14% (rounded) for the year Chapter 4 Real Estate Investments14

© 2013 All rights reserved. $250,000/$500,000 Rule For sale of residence: $250,000 exclusion if single $500,000 exclusion if married Must have owned and resided in home two of the last five years Chapter 4 Real Estate Investments15

© 2013 All rights reserved. The Six Federal Income Tax Brackets  10 %  15 %  25 %  28 %  33 %  35 %  Most taxpayers fall between 15 and 28 percent Chapter 4 Real Estate Investments16

© 2013 All rights reserved. Classifications of Income IncomeDefinition Active Salaries-participation Portfolio Interest, annuities, dividends, royalties Passive activity Conducting business-no participation Chapter 4 Real Estate Investments17

© 2013 All rights reserved. Permitted Deductions Property TaxesMortgage interest Chapter 4 Real Estate Investments18

© 2013 All rights reserved. Capital Gains Tax Capital gain-profit from sale of real estate Short-Term Property held less that one year Long-Term If property held longer than 12 mos, taxed at 15% if taxpayer above 15% bracket Chapter 4 Real Estate Investments19

© 2013 All rights reserved. Capital Gains on the Sale of Investment Property The basis of a property is usually its cost The adjusted basis is the original cost or other basis plus certain additions and minus certain deductions such as depreciation and casualty losses Chapter 4 Real Estate Investments20

© 2013 All rights reserved. Tax Depreciation Tax Depreciation Business deduction Not for assets for personal use Depreciation schedule 27.5 yrs residential 31.5 or 39 yrs non residential Property sheltered from taxation Recovery of cost or other basis Accounting concept Property may appreciate Chapter 4 Real Estate Investments21

© 2013 All rights reserved. Taxable Income  Formula for deriving income tax: Total property income -deductions, allowable credits and exemptions =taxable income  Value overview by income capitalization Capitalization formula: Value x capitalization rate= annual net income Chapter 4 Real Estate Investments22

© 2013 All rights reserved. Cash Flow Income Shelter  Cash flow Net proceeds after all expenses are met either before or after taxes  Income = $500,000  Expenses = $300,000  Cash flow (net return) = $200,000 Chapter 4 Real Estate Investments23

© 2013 All rights reserved. Tax-Deferred Property Exchanges  Business or commercial property only  Like kind  Qualified intermediary  Purchase price of replacement property has equal or greater level of debt  All money from property sold must be used to buy replacement property Chapter 4 Real Estate Investments24