Buying a House vs. Buying a House vs. a Condominiuma Condominium

as a Rental Property as a Rental PropertyGroup 2Group 2

EGR 403 Section 02EGR 403 Section 02

Team Members:

Samuel Mebasser

Tim Craig

Bryan Hannah

Michael Lai

Henry Phan

ScenarioScenario

30 Year Old Engineer Making $85K 30 Year Old Engineer Making $85K AnnuallyAnnually

Planning to Retire at Age 60Planning to Retire at Age 60 Looking to Invest in Either a House or Looking to Invest in Either a House or

Condo as a Rental PropertyCondo as a Rental Property Looking for a 10% Minimum Attractive Looking for a 10% Minimum Attractive

Rate of ReturnRate of Return

Option #1 – Option #1 – Buying Buying The HouseThe House

4 Bedroom, 3 4 Bedroom, 3 Bathroom house Bathroom house located in Pasadena.located in Pasadena.

2,232 Square Feet2,232 Square Feet 2 Car Garage2 Car Garage Built in 1979Built in 1979 Selling Price: Selling Price:

$587,000$587,000 Estimated Estimated

Appreciation: 8% Appreciation: 8% AnnuallyAnnually

Option #2 – Buying Option #2 – Buying TheThe Condo Condo

2 Bedroom, 2 Bathroom 2 Bedroom, 2 Bathroom Condominium located in Condominium located in Pasadena.Pasadena.

1,113 Square Feet1,113 Square Feet 2 Car Garage2 Car Garage Built in 1981Built in 1981 Selling Price: $399,000Selling Price: $399,000 Estimated Appreciation: Estimated Appreciation:

4% Annually4% Annually

Analysis ParametersAnalysis ParametersHouseHouse CondoCondo

Purchase PricePurchase Price $587,000$587,000 $399,000$399,000

Annual Property Annual Property Value AppreciationValue Appreciation

8%8% 4%4%

MaintenanceMaintenance $1050 of Today’s $1050 of Today’s DollarsDollars

$275 of Today’s $275 of Today’s DollarsDollars

Total Non Recurring Total Non Recurring Costs Costs

$12,462.00$12,462.00 $9,624.00$9,624.00

Association DuesAssociation Dues 00 .36% of Property .36% of Property ValueValue

Home - Cash Flow Diagram30 Year Loan

-$150

-$100

-$50

$0

$50

$100

$150

$200

(Thousands)

Time (Years)

Do

lla

rs

Rental Income Payments Federal Tax Savings Property Tax Insurance

Repairs Supplies Auto and Travel Property Management Salvage Value

Cash Flow Diagram - HomeCash Flow Diagram - Home

$5,469,240

Condominium - Cash Flow Diagram30 Year Loan

-$100

-$80

-$60

-$40

-$20

$0

$20

$40

$60

$80

$100

(Thousands)

Time (Years)

Do

llars

Rental Income Payments Federal Tax Savings Property Tax

Insurance Repairs Supplies Auto and Travel

Property Management Association Dues Salvage Value

Cash Flow Diagram – CondoCash Flow Diagram – Condo

$1,249,230

Non Recurring CostsNon Recurring Costs

Loan Origination FeeLoan Origination Fee Underwriting FeeUnderwriting Fee Processing FeeProcessing Fee Loan Document Preparation FeeLoan Document Preparation Fee Credit ReportCredit Report ALTA Title PolicyALTA Title Policy Tax ServiceTax Service Recording FeesRecording Fees Escrow FeeEscrow Fee Loan Tie – In FeeLoan Tie – In Fee Third Party Property InspectionThird Party Property Inspection

Additional Costs and BenefitsAdditional Costs and Benefits

Engineer Receives an annual raise of 5%Engineer Receives an annual raise of 5% Property Taxes are 1.25% of Property’s Property Taxes are 1.25% of Property’s

market valuemarket value Insurance is .3% of Property’s market valueInsurance is .3% of Property’s market value

Monthly Payments On LoanMonthly Payments On Loan Loan Term is 30 Years with 6.5% Fixed APRLoan Term is 30 Years with 6.5% Fixed APR Down Payment is 20% of Purchase Price, Therefore, Loan Down Payment is 20% of Purchase Price, Therefore, Loan

covers 80% of the purchase pricecovers 80% of the purchase price

HouseHouse Loan Amount is Loan Amount is

$469,600$469,600 Monthly Payments on Monthly Payments on

30 year loan are 30 year loan are $2968.19$2968.19

CondoCondo Loan Amount is Loan Amount is

$319,200 $319,200 Monthly Payments on Monthly Payments on

30 Year Loan are 30 Year Loan are $2017.56$2017.56

Tax SavingsTax Savings

A.G.I. = Rental income – deductionsA.G.I. = Rental income – deductions Schedule E deductionsSchedule E deductions

• Insurance costsInsurance costs• Auto and travel expensesAuto and travel expenses• Management feesManagement fees• Mortgage interestMortgage interest• RepairsRepairs• SuppliesSupplies• Property TaxesProperty Taxes• Depreciation (MACRS)Depreciation (MACRS)• Association fees (Condominium only)Association fees (Condominium only)

Sensitivity Analysis ParametersSensitivity Analysis Parameters

Number of Years Number of Years Property kept after Property kept after paid off.paid off.

APRAPR Annual Annual

Appreciation of Appreciation of PropertyProperty

Down Payment Down Payment PercentagePercentage

Annual Rent Annual Rent Inflation RateInflation Rate

Loan TermLoan Term House Monthly House Monthly

RentalRental Condominium Condominium

Monthly RentalMonthly Rental

Default Sensitivity Analysis ParametersDefault Sensitivity Analysis Parameters

ParameterParameter House House CondoCondoNumber of Years kept Number of Years kept after property Paid offafter property Paid off

00 00

APR APR 6.5%6.5% 6.5%6.5%

Property Appreciation Property Appreciation %%

8%8% 4%4%

Down PaymentDown Payment 20%20% 20%20%

Rental Inflation RateRental Inflation Rate 4%4% 4%4%

Loan TermLoan Term 30 Years30 Years 30 Years30 Years

Monthly RentMonthly Rent $3,250$3,250 $1,950$1,950

Sensitivity AnalysisSensitivity Analysis Number of Years Property kept after paid off.Number of Years Property kept after paid off.

8.00%

9.00%

10.00%

11.00%

12.00%

13.00%

14.00%

15.00%

16.00%

17.00%

18.00%

0 5 10 15 20 25

Time (Years)

RO

R

ROR Home ROR Condo Poly. (ROR Condo) Poly. (ROR Home)

Sensitivity AnalysisSensitivity Analysis APRAPR

8.00%

9.00%

10.00%

11.00%

12.00%

13.00%

14.00%

15.00%

4 4.5 5 5.5 6 6.5 7 7.5 8 8.5

APR

RO

R

ROR Home ROR Condo Linear (ROR Home) Linear (ROR Condo)

Sensitivity AnalysisSensitivity Analysis Annual Appreciation of PropertyAnnual Appreciation of Property

9.00%

11.00%

13.00%

15.00%

17.00%

19.00%

21.00%

4.00% 6.00% 8.00% 10.00% 12.00% 14.00% 16.00%

Annual Appreciation of Property (increased Salvage Value)

RO

R

ROR Home ROR Condo Linear (ROR Home) Linear (ROR Condo)

Sensitivity AnalysisSensitivity Analysis Down Payment PercentageDown Payment Percentage

8.00%

9.00%

10.00%

11.00%

12.00%

13.00%

14.00%

15.00%

16.00%

17.00%

18.00%

0.00% 5.00% 10.00% 15.00% 20.00% 25.00% 30.00%

Down Payment Percentage

RO

R

ROR Home ROR Condo Poly. (ROR Home) Poly. (ROR Condo)

Sensitivity AnalysisSensitivity Analysis Annual Rent Inflation RateAnnual Rent Inflation Rate

8.00%

9.00%

10.00%

11.00%

12.00%

13.00%

14.00%

15.00%

16.00%

17.00%

3.00% 4.00% 5.00% 6.00% 7.00% 8.00% 9.00% 10.00% 11.00%

Annual Rent Inflation Rate

RO

R

ROR Home ROR Condo Expon. (ROR Condo) Expon. (ROR Home)

Sensitivity AnalysisSensitivity Analysis Loan TermLoan Term

8.00%

9.00%

10.00%

11.00%

12.00%

13.00%

14.00%

15.00%

16.00%

19 20 21 22 23 24 25 26 27 28 29 30 31

Time (Years)

RO

R

ROR Home ROR Condo Poly. (ROR Condo) Poly. (ROR Home)

Sensitivity AnalysisSensitivity Analysis House Monthly RentalHouse Monthly Rental

11.60%

11.80%

12.00%

12.20%

12.40%

12.60%

12.80%

13.00%

13.20%

13.40%

13.60%

$2,200.00 $2,400.00 $2,600.00 $2,800.00 $3,000.00 $3,200.00 $3,400.00

House Monthly Rental

RO

R

ROR Home Linear (ROR Home)

Sensitivity AnalysisSensitivity Analysis Condominium Monthly RentalCondominium Monthly Rental

7.00%

8.00%

9.00%

10.00%

11.00%

12.00%

13.00%

$1,400.00 $1,600.00 $1,800.00 $2,000.00 $2,200.00 $2,400.00 $2,600.00

Condominium Monthly Rental

RO

R

ROR Condo Linear (ROR Condo)

Lower Interest Rates translate into higher Lower Interest Rates translate into higher IRRIRR

Less Down Payment will yield a higher IRRLess Down Payment will yield a higher IRR It is wise to keep the house after it is It is wise to keep the house after it is

already paid off, but keeping the condo already paid off, but keeping the condo after it is paid off will decrease the IRRafter it is paid off will decrease the IRR

If the inflation rate of rent increases at a If the inflation rate of rent increases at a very high rate (>10%), the condo will very high rate (>10%), the condo will eventually have a higher IRR than the eventually have a higher IRR than the househouse

Sensitivity Analysis SummarySensitivity Analysis Summary

SummarySummary

Assuming the 30 year, 6.5% APR Loan where Assuming the 30 year, 6.5% APR Loan where the owner sells the house after 30 years the owner sells the house after 30 years

with a MARR of 10%with a MARR of 10%

The IRR of the house is 13.49%The IRR of the house is 13.49% The IRR of the Condo is 9.52%The IRR of the Condo is 9.52% The Incremental ROR of the two options is 17%The Incremental ROR of the two options is 17% Since the Incremental ROR is larger than the MARR, The Since the Incremental ROR is larger than the MARR, The

higher cost alternative is chosenhigher cost alternative is chosen

Therefore, the Engineer should buy the house for a Therefore, the Engineer should buy the house for a greater return on his moneygreater return on his money

ResourcesResources

Jhdcpa.comJhdcpa.com www.irs.govwww.irs.gov Tarbell RealtorsTarbell Realtors Essentials of Engineering Economic Essentials of Engineering Economic

Analysis. Analysis. Newman, Lavelle, EschenbachNewman, Lavelle, Eschenbach