Chapter 2, Problem 1OR

Summary Introduction

To calculate: The equity the buyer has in home and the rate of return for the initial investment.

Explanation of Solution

Given information:

House Price = $150,000

Initial investment = $30,000

House price after 2 years = $195,000

Outstanding mortgage balance =$118,000

Calculation of buyer’s equity in home:

The buyer’s equity is calculated as shown below:

$\begin{array}{c}\text{Buyer's equity}=\text{House price after 2 years}-\text{Outstanding mortgage balance}\\ =\text{\$198,000}-\text{\$118,000}\\ =\text{\$77,000}\end{array}$

Calculation of rate of return for initial investment:

$\begin{array}{c}\text{Rate of return}=\frac{\left(\text{Buyer's equity}-\text{Initial investment}\right)}{\text{Initial investment}}\times 100\\ =\frac{\left(\$77,000-\$30,000\right)}{\$30,000}\times 100\\ =\frac{47,000}{30,000}\times 100\\ =1.5667\times 100\\ =156.67\%\end{array}$

The buyer’s equity in home is $77,000.

The rate of return is 156.67%.