Q3. Use the cash flow pro forma approach we have discussed in class to answer the following question (3 points).

An investor is considering an apartment investment with the following assumptions:

Building information: Number of Units 30 apartment units at an average of 1500 square feet per apartment

Asking Price $500,000

Rents $450 /month/unit in year 1; expected to increase 3%/year

V & C Losses 3 apartment unit per year

Operating Expenses $50,000 in year 1; expected to increase 3 percent per year

Depreciation

Building Value / Total Value 85 percent

Useful Life 27.5 years

Financing Information:

Financing Loan-to-Value Ratio 70 percent

Interest Rate

10 percent

Maturity 30 years with monthly payments

Prepayment Penalty 5 percent of amount outstanding

Holding Period 5 years

Expected Selling Price $600,000

Selling Expenses 6 percent of the selling price

Tax Rate:

Marginal Tax Rate 28 percent

Capital Gain Tax Rate Depreciation Recapture 15 percent

Tax Rate 25 percent

a. Prepare the before-tax and after-tax cash flow statements for each of the 5 years.

b. Calculate the before-tax and after-tax IRR on this investment.