For the following problems, assume the real estate tax rate is 1.5% on residential property and 4% on commercial.
1. You are working with a developer who wants to acquire and rehabilitate a former bank in town. The building (20,000 square feet) can be purchased for $87,500, but it will cost another $600,000 to rehab. Indirect costs can be expected to cost another 11.5%. A 20-year mortgage can be obtained at 12.5%, but only for 50% of the project. Operating expenses can be expected to cost $25,000 a year, plus $30,000 annually for property taxes. the area is currently experiencing a 4% vacancy rate, and 5% of the gross building area will be unleasable (hallways, service spaces, etc.). Market rents in the area are around $7 per square foot. Assuming that investors will require a minimum pre-tax return on equity of 15%, is this project feasible as described?
2. You are evaluating a HoDAG (Housing Development
Action Grant) for
3. You are working for a private, for-profit neighborhood development corporation. You can acquire a property for $30,000; rehabilitation will cost another $30,000, and indirect costs will run to $2900. The building is 75 years old, but it is not on the historical register. You can rent the property as a duplex, and generate an annual income of $9612. You estimate annual operating expenses at $2772. You can arrange a 12% loan for 20 years, with 15% equity. Vacancy rates are fairly low, but assume that one unit will be vacant one month each year (i.e., 8% vacancy). Your firm is in the 28% tax bracket, and you require at least a 15% return on your equity investment. Does the project make economic sense before taxes? Do tax considerations make a difference in this case? Would tax considerations make a difference if your firm were being taxed at the pre-1987 rate of 50%?
4. Return to the bank building question (#1). Would the developer be more interested in the city forgiving the real estate taxes for 5 years, or writing the mortgage down to 11.75%? (Assume the developer plans to sell the building within 5 years, so the time-limit on tax-relief is not an issue).
5. Return to the
© 1996 A.J.Filipovitch
Revised 11 March 2005