You have just taken a job that requires you to move to a new city. In relocating, you face the decision of whether to buy or rent a house. A suitable house costs $300,000 and you have saved enough for the down payment. The (nominal) mortgage interest rate is 10% per year, and you can also earn 10% per year on sav- ings. Mortgage interest payments are tax deductible, interest earnings on savings are taxable, and you are in a 30% tax bracket. Interest is paid or received, and taxes are paid, on the last day of the year. The expect- ed inflation rate is 5% per year. The cost of maintaining the house (replacing worn- out roofing, painting, and so on) is 6% of the value of the house. Assume that these expenses also are paid entirely on the last day of the year. If the maintenance is done, the house retains its full real value. There are no other rele- vant costs or expenses. a. What is the expected after-tax real interest rate or the home mortgage? b. What is the user cost of the house? c. If all you care about is minimizing your livin expenses, at what (annual) rent level would you be just indifferent between buying a house and rentin
You have just taken a job that requires you to move to a new city. In relocating, you face the decision of whether to buy or rent a house. A suitable house costs $300,000 and you have saved enough for the down payment. The (nominal) mortgage interest rate is 10% per year, and you can also earn 10% per year on sav- ings. Mortgage interest payments are tax deductible, interest earnings on savings are taxable, and you are in a 30% tax bracket. Interest is paid or received, and taxes are paid, on the last day of the year. The expect- ed inflation rate is 5% per year. The cost of maintaining the house (replacing worn- out roofing, painting, and so on) is 6% of the value of the house. Assume that these expenses also are paid entirely on the last day of the year. If the maintenance is done, the house retains its full real value. There are no other rele- vant costs or expenses. a. What is the expected after-tax real interest rate or the home mortgage? b. What is the user cost of the house? c. If all you care about is minimizing your livin expenses, at what (annual) rent level would you be just indifferent between buying a house and rentin
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
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Transcribed Image Text:3. You have just taken a job that requires you to move to
a new city. In relocating, you face the decision of
whether to buy or rent a house. A suitable house costs
$300,000 and you have saved enough for the down
payment. The (nominal) mortgage interest rate is 10%
per year, and you can also earn 10% per year on sav-
ings. Mortgage interest payments are tax deductible,
interest earnings on savings are taxable, and you are in
a 30% tax bracket. Interest is paid or received, and
taxes are paid, on the last day of the year. The expect-
ed inflation rate is 5% per year.
The cost of maintaining the house (replacing worn-
out roofing, painting, and so on) is 6% of the value of the
house. Assume that these expenses also are paid entirely
on the last day of the year. If the maintenance is done, the
house retains its full real value. There are no other rele-
vant costs or expenses.
a. What is the expected after-tax real interest rate on
the home mortgage?
b. What is the user cost of the house?
c. If all you care about is minimizing your living
expenses, at what (annual) rent level would you be
just indifferent between buying a house and renting
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