CMPS Real Estate Investment Planning 2 — Questions and Answers
Question 1: An investor purchases a rental property for $350,000 with a $70,000 down payment. The annual NOI is $28,000. What is the cap rate?
- 8.0% (Correct answer)
- 6.0%
- 10.0%
- 7.5%
Correct answer: 8.0%
Cap rate = NOI / Purchase Price = $28,000 / $350,000 = 8.0%.
Question 2: Which depreciation schedule does the IRS require residential rental property to use?
- 27.5-year straight-line (Correct answer)
- 39-year straight-line
- 15-year MACRS
- 20-year straight-line
Correct answer: 27.5-year straight-line
Residential rental property is depreciated over 27.5 years using the straight-line method under MACRS.
Question 3: A property with a gross potential rent of $60,000, vacancy loss of $3,000, and operating expenses of $22,000 has a NOI of:
- $35,000 (Correct answer)
- $38,000
- $57,000
- $60,000
Correct answer: $35,000
NOI = Gross Potential Rent − Vacancy − Operating Expenses = $60,000 − $3,000 − $22,000 = $35,000.
Question 4: Which of the following best describes a 1031 exchange in real estate investing?
- Deferral of capital gains tax by reinvesting proceeds into a like-kind property (Correct answer)
- A tax-free sale of a primary residence
- An exchange of mortgage notes between two lenders
- A method to convert rental income to capital gains
Correct answer: Deferral of capital gains tax by reinvesting proceeds into a like-kind property
A 1031 exchange allows investors to defer capital gains taxes by rolling proceeds into a like-kind replacement property.
Question 5: An investor's property generates $18,000 annual cash flow on a $150,000 equity investment. What is the cash-on-cash return?
- 12% (Correct answer)
- 8%
- 15%
- 10%
Correct answer: 12%
Cash-on-cash return = Annual Pre-Tax Cash Flow / Total Cash Invested = $18,000 / $150,000 = 12%.
Question 6: Which ratio measures a property's ability to cover its mortgage payments from operating income?
- Debt Service Coverage Ratio (DSCR) (Correct answer)
- Loan-to-Value Ratio (LTV)
- Gross Rent Multiplier (GRM)
- Capitalization Rate
Correct answer: Debt Service Coverage Ratio (DSCR)
DSCR = NOI / Annual Debt Service; lenders typically require a minimum DSCR of 1.20–1.25 for investment properties.
Question 7: Which type of real estate investment structure provides pass-through taxation and limited liability to its investors?
- Limited Liability Company (LLC) (Correct answer)
- C-Corporation
- S-Corporation (single class of stock)
- General Partnership
Correct answer: Limited Liability Company (LLC)
An LLC offers pass-through taxation avoiding double taxation while providing limited liability protection to members.
CMPS Real Estate Investment Planning 2
An investor purchases a rental property for $350,000 with a $70,000 down payment.
The annual NOI is $28,000.
What is the cap rate?