Beth bought some residential development property for $200,000 five years ago. S

Question

Beth bought some residential development property for $200,000 five years ago. She sold the property this year for $1,200,000 and spent $250,000 for infrastructure development in year 5, the year in which the property was sold. If the inflation rate for the past 5 years has been steady at 5% annually, compute the after-tax real rate of return on this investment. Assume a capital gain tax of 15%.

Show work please, guessing for an answer is not helpful, thank you. A)33.17% B)28.13% C)26.8% D)31.84%

Explanation / Answer

This is a question of opportunity cost. Beth invested her money in real estate. What we need to compute now is how much she made from her investment.

First of all Beth in the 5th year got $1,200,000 - $250,000 = $950,000.

Now she has to pay tax on capital gains. Capital gain will be the profit she made. Here she made a profit of $950,000 - $200,000 = $750,000

She pays 15% tax on this and the remaining 85% is her profit.

So her absolute profit is 750,000*85% = $637,500

Now to find her rate of return, we need to find the effective interest rate.

So let that be X. nominal rate of return =

$637,500 = 200,000*(1 + X/100)5

Or 637500 / 200000 = (1 + X/100)5

Or 3.18755 = (1 + X/100)5

Or 1.26092 = 1 + X/100

Or X/100 = 26.8%

Related Questions

Navigate

• Browse (All)
• Browse B
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.