Retrieve the Excel spreadsheet. Review the base-case calculations of the own-versus-rent decision. Note that with the base-case assumptions and an expected 1-year holding period, renting is preferred to owning by $21,898 (cell B63); that is, the net present value of the cost of renting is $21,898 less than the net present value of the cost of owning. With a 5-year expected holding/analysis period, owning is preferred to renting by $2,303.

1. Go back to the base case assumptions (mortgage rate = 3.5%). Assuming a 5-year holding period, what is the incremental benefit of owning if annual house price appreciation is assumed to be 4.0% instead of 2.0%? In what year, does owning now dominate renting? Does this result make sense? Explain.

Go back once more to the base-case assumptions (2% annual house price growth). Assuming a 5-year holding period, what happens to the incremental value of owning relative to renting if the rate at which the household deducts housing related expenses is 0% instead of 22%? What do you conclude about the effect of income taxation on the desirability of owning relative to renting? Do these conclusions make sense? Explain.

One COM.CO LOV DETTE 37 MES RE M AL! H 1 2 3 5 6 7 8 9 10 20% 2.0% 2.0% 20% 20% 20% 20% 20% 2.0% 20% 2.0% 2.0% 20% 20% 20% 20% 2.0% 2.0% B 1 Homework #1: Owning Versus Renting: An Economic Analysis 2 3 COST OF OWNING VERSUS COST OF RENTING 4 YEAR 1 5 6 COST OF RENTING 7. Initial Monthly Rent (5) $1,300 B Expected Annual Rent Change (or ) 20% 9 10 COST OF OWNING 11 Purchase Price ($) $275,000 12 Expected Annual Price Change ($ or 56) 209 13 Required Down Payment (5 or of purchase price) 0.20 14 Acquistion Costs (5 or %) 1.50% 15 Financing Terms 16 Annual Contract int Rate(%) 3.50% 12 Loan Termin Years 30 18 * Payments/year 12 19 Origination Fee (or) 100% 20 Discount Points (sor) 0.00% 21 Operating costs 22 Annual Property Tax ($) $5.000 23 Annual increase in Property Taxs (%) 20% 24 Annual Mant & Repairs (5) 52.000 25 Annual increase in Iain & Rep (*) 20% 26 Annual Home Owners Insurance (5) 51.000 27 Annual increase in haurance Premium (%) 2.0 28 Seing costs at Disposition: 29 Seling Commission) 60% 30 Other Closing Costs or ) 20% 31 Tax Rate at which tent and Prop Taxes are Deducted (%) 220 32 After Tax Discount Rate() 3 SON COMPUTED VALUES Loan Amount Monthly Payment Annual Debt Service Origination Fee Discount Points Down Pot w/o AcoFnCsts Acquisition (not in Costa $ After Tax Equity Investment Annual Rent in Yeart $220,000 598790 $11.855 $2.200 $0 $55,000 34.125 (561,325) 15,800 (Assume at rent payments are made at end of each year) 220 3.50% 22.0% 3.50% 22.0% 3.50% 22.0% 3.50% 22:05 3.50% 22.0% 3.50N 220% 3.50 22.0N 3.50% 22.0% 3.50% N o P R S U X 1 2 3 4 5 6 7 8 9 10 11 YEAR LOAN AMORTIZATION MORT. BAL AT BEG OF YR less MORT BALAT END DEBT SERVICE less PRINCIPAL REDUCTION INTEREST EXPENSE 220000 -215778 215778 -211406 211406 206878 -206878 -202189 192305 -187098 170339 11855 -4222 7633 11855 -4372 7483 11855 -4528 7327 11855 -4689 202189 197334 -197334 -192305 11855 11855 -4856 -5028 6999 6827 11855 -5207 6648 187098 181706 -181706-176122 11855 11855 -5392 -5584 6462 6271 176122 -170339 11855 -5783 6072 7166 25206.5 -17076 34568.9 -17076 -17247 44186.1 -17076 -17247 -17422 54065.6 -17076 -17247 -17422 -17601 64215.1 -17076 -17247 -17422 -17601 -17784 74642.7 -17076 -17247 -17422 -17601 -17784 -17971 5356.5 -17076 -17247 -17422 -17601 -17794 -17971 -18163 96365 -17076 -17247 -17422 -17601 -17784 -17971 -18163 -18359 107672 -17076 -17247 -17422 -17601 -17784 -17971 -18163 -18359 -18560 119301 B C D E G H K 1 2 3 6 7 9 10 (515.600) ($15,072) (515,912) ($29.928) (516,230) (544,565) ($16,555) (558,992) (516,886) (573,209) ($17 224) (587 221) (517,566) (5101,029 ($17.919) ($114,837) (518,278) ($128,049) ($18.643) ($141 265) (57,633) (55.000) ($12,633) (89,854) (57.483) (57,327) (55,100) ($5,202) (512.583) ($12,529) (59.814) (59,773) (57,166) ($5,306) (512.472) (59,728) (56,999) (55,412) (512,411) (59,681) (56.327) (55,520) (512.347) (59.631) (56,648) (55,631) (512,278) (59,577) (56.462) ($5,743) 1512.206) (59.521) (56.271) ($5,858) (512,129) (59,461) (56.072) (35975 (512048 (59397) 33 34 YEAR 35 COST OF RENTING 36 Annual Rent 37 Cumulative PV of Renting Costs 38 39. COST OF OWNNG 40 Tax Ded. Operating costs 41 Interest 42 Property Tax 43 TOTAL BEFORE TAX COST 44 TOTAL AFTER TAX COST 45 Non-Ded. Operating costs 46 Principal Payment 47 Maintenance & Repairs 48 Insurance 49 TOTAL NON-DED. COSTS 50 AFTER TAX OPER COSTS: 51 52 REVERSION 53 SELLING PRICE 54 less SELLING COMM. 55 less OTHER CLOSNG COSTS 56 less MORTGAGE BALANCE 57 CASH FLOW FROM REVER 58 59 Total Cash Flow if Sold 60 PV of Owning Costs ir Sold 61 62 TENURE CHOICE 63 Incremental Benefit of Owning vs. Renting 64 YEAR (54.222) ($2.000) (51.000) (57.222) (517,076) (54372) (54,528) ($2.040) (52,061) ($1.020) (51,040) (57.432) (87,849) (517247) ($17.422) (54,689) (S2,122) (51,061) ($7,872) (517601) (54,856) (52 165) ($1,082) (58,103) (517,784) (55.028) (52.208) (51.104) (58.341) ($17.971) (55,207) ($2,252) (51,126) (58,586) (518,163) (55,392) ($2.297) (51.149) ($8,838) ($18,350) (55,584) ($2,343) (51,172) (89,099) (518,560) (55,783) (52 390) ($1.195) (39.388) (518,765) $280,500 $286.110 5291,832 ($16,830) ($17,167) ($17,510) (55,610) (55.722) (55,837) (5215,778) (S211.406) (5206,878) $42.282 $51.816 561600 5297669 5303,622 $309.695 ($17,860) ($18,217) (518,582) (55,953) (55,072) (56.194) (S202,189) (5197,334) ($192,305) $71,665 $81,999 592.614 5315,889 $322.206 ($18.953) ($19,332) (56.318) (56.444) ($187.098) ($181.708) $103,519 $114 724 5328,650 (519,719) (56,573) (5178,122) $126,237 $335.223 ($20,113) (56.704) ($170,339) $138.066 $25,206 ($36.971) $34.569 $44,186 (545 553) (554,070) $54,066 (562,521) $64.215 (570,907) 574,543 (579.226) 585,356 (587,478) $96,385 1595.662) $107,677 (5103,779) $119 301 ($111.828) (521.898) 1 (315.628) 2 (59,504) 3 (53,529) 4 $2,303 5 $7.995 6 $13,551 7 $18.975 524,289 9 $29, 437 10 One COM.CO LOV DETTE 37 MES RE M AL! H 1 2 3 5 6 7 8 9 10 20% 2.0% 2.0% 20% 20% 20% 20% 20% 2.0% 20% 2.0% 2.0% 20% 20% 20% 20% 2.0% 2.0% B 1 Homework #1: Owning Versus Renting: An Economic Analysis 2 3 COST OF OWNING VERSUS COST OF RENTING 4 YEAR 1 5 6 COST OF RENTING 7. Initial Monthly Rent (5) $1,300 B Expected Annual Rent Change (or ) 20% 9 10 COST OF OWNING 11 Purchase Price ($) $275,000 12 Expected Annual Price Change ($ or 56) 209 13 Required Down Payment (5 or of purchase price) 0.20 14 Acquistion Costs (5 or %) 1.50% 15 Financing Terms 16 Annual Contract int Rate(%) 3.50% 12 Loan Termin Years 30 18 * Payments/year 12 19 Origination Fee (or) 100% 20 Discount Points (sor) 0.00% 21 Operating costs 22 Annual Property Tax ($) $5.000 23 Annual increase in Property Taxs (%) 20% 24 Annual Mant & Repairs (5) 52.000 25 Annual increase in Iain & Rep (*) 20% 26 Annual Home Owners Insurance (5) 51.000 27 Annual increase in haurance Premium (%) 2.0 28 Seing costs at Disposition: 29 Seling Commission) 60% 30 Other Closing Costs or ) 20% 31 Tax Rate at which tent and Prop Taxes are Deducted (%) 220 32 After Tax Discount Rate() 3 SON COMPUTED VALUES Loan Amount Monthly Payment Annual Debt Service Origination Fee Discount Points Down Pot w/o AcoFnCsts Acquisition (not in Costa $ After Tax Equity Investment Annual Rent in Yeart $220,000 598790 $11.855 $2.200 $0 $55,000 34.125 (561,325) 15,800 (Assume at rent payments are made at end of each year) 220 3.50% 22.0% 3.50% 22.0% 3.50% 22.0% 3.50% 22:05 3.50% 22.0% 3.50N 220% 3.50 22.0N 3.50% 22.0% 3.50% N o P R S U X 1 2 3 4 5 6 7 8 9 10 11 YEAR LOAN AMORTIZATION MORT. BAL AT BEG OF YR less MORT BALAT END DEBT SERVICE less PRINCIPAL REDUCTION INTEREST EXPENSE 220000 -215778 215778 -211406 211406 206878 -206878 -202189 192305 -187098 170339 11855 -4222 7633 11855 -4372 7483 11855 -4528 7327 11855 -4689 202189 197334 -197334 -192305 11855 11855 -4856 -5028 6999 6827 11855 -5207 6648 187098 181706 -181706-176122 11855 11855 -5392 -5584 6462 6271 176122 -170339 11855 -5783 6072 7166 25206.5 -17076 34568.9 -17076 -17247 44186.1 -17076 -17247 -17422 54065.6 -17076 -17247 -17422 -17601 64215.1 -17076 -17247 -17422 -17601 -17784 74642.7 -17076 -17247 -17422 -17601 -17784 -17971 5356.5 -17076 -17247 -17422 -17601 -17794 -17971 -18163 96365 -17076 -17247 -17422 -17601 -17784 -17971 -18163 -18359 107672 -17076 -17247 -17422 -17601 -17784 -17971 -18163 -18359 -18560 119301 B C D E G H K 1 2 3 6 7 9 10 (515.600) ($15,072) (515,912) ($29.928) (516,230) (544,565) ($16,555) (558,992) (516,886) (573,209) ($17 224) (587 221) (517,566) (5101,029 ($17.919) ($114,837) (518,278) ($128,049) ($18.643) ($141 265) (57,633) (55.000) ($12,633) (89,854) (57.483) (57,327) (55,100) ($5,202) (512.583) ($12,529) (59.814) (59,773) (57,166) ($5,306) (512.472) (59,728) (56,999) (55,412) (512,411) (59,681) (56.327) (55,520) (512.347) (59.631) (56,648) (55,631) (512,278) (59,577) (56.462) ($5,743) 1512.206) (59.521) (56.271) ($5,858) (512,129) (59,461) (56.072) (35975 (512048 (59397) 33 34 YEAR 35 COST OF RENTING 36 Annual Rent 37 Cumulative PV of Renting Costs 38 39. COST OF OWNNG 40 Tax Ded. Operating costs 41 Interest 42 Property Tax 43 TOTAL BEFORE TAX COST 44 TOTAL AFTER TAX COST 45 Non-Ded. Operating costs 46 Principal Payment 47 Maintenance & Repairs 48 Insurance 49 TOTAL NON-DED. COSTS 50 AFTER TAX OPER COSTS: 51 52 REVERSION 53 SELLING PRICE 54 less SELLING COMM. 55 less OTHER CLOSNG COSTS 56 less MORTGAGE BALANCE 57 CASH FLOW FROM REVER 58 59 Total Cash Flow if Sold 60 PV of Owning Costs ir Sold 61 62 TENURE CHOICE 63 Incremental Benefit of Owning vs. Renting 64 YEAR (54.222) ($2.000) (51.000) (57.222) (517,076) (54372) (54,528) ($2.040) (52,061) ($1.020) (51,040) (57.432) (87,849) (517247) ($17.422) (54,689) (S2,122) (51,061) ($7,872) (517601) (54,856) (52 165) ($1,082) (58,103) (517,784) (55.028) (52.208) (51.104) (58.341) ($17.971) (55,207) ($2,252) (51,126) (58,586) (518,163) (55,392) ($2.297) (51.149) ($8,838) ($18,350) (55,584) ($2,343) (51,172) (89,099) (518,560) (55,783) (52 390) ($1.195) (39.388) (518,765) $280,500 $286.110 5291,832 ($16,830) ($17,167) ($17,510) (55,610) (55.722) (55,837) (5215,778) (S211.406) (5206,878) $42.282 $51.816 561600 5297669 5303,622 $309.695 ($17,860) ($18,217) (518,582) (55,953) (55,072) (56.194) (S202,189) (5197,334) ($192,305) $71,665 $81,999 592.614 5315,889 $322.206 ($18.953) ($19,332) (56.318) (56.444) ($187.098) ($181.708) $103,519 $114 724 5328,650 (519,719) (56,573) (5178,122) $126,237 $335.223 ($20,113) (56.704) ($170,339) $138.066 $25,206 ($36.971) $34.569 $44,186 (545 553) (554,070) $54,066 (562,521) $64.215 (570,907) 574,543 (579.226) 585,356 (587,478) $96,385 1595.662) $107,677 (5103,779) $119 301 ($111.828) (521.898) 1 (315.628) 2 (59,504) 3 (53,529) 4 $2,303 5 $7.995 6 $13,551 7 $18.975 524,289 9 $29, 437 10