Reference no: EM133116253

Rebecca after being graduated with an MBA secured employment in investment banking which denotes that she has got into a relevant profession indicating a stable income source. Simultaneously, she rented a two-bedroom condominium for the cost of $3,000 per month (parking cost included and utilities excluded). After 2 months, she saw a place next door identical to her rented place for $620,000 which she thought of getting in $600,000. This place was sufficient for her for the next 5 years before she could think of the bigger place. So, now she can either make a decision to purchase this new place or continue renting the one in which she was staying.  She wanted to analyze the buy vs rent decision from a quantitative point of view in order to provide some context for the qualitative considerations that would be a major part of her decision.

FINANCIAL DETAILS

If Young purchased the new condominium, she would pay monthly condo fees of $1,055 per month, plus property taxes of $300 per month on the unit. Unlike when renting, she would also be responsible for repairs and general maintenance, which she estimated would average $600 per year.

If she decided to purchase the new unit, Young intended to provide a cash down payment of 20 percent of the purchase price. There was also a local deed-transfer tax of approximately 1.5 percent of the purchase price, and a provincial deed-transfer tax of 1.5 percent, both due on the purchase date. (For simplicity, Young planned to initially ignore any other tax considerations throughout her analysis.) Other closing fees were estimated to be around $2,000.

In order to finance the remaining 80 percent of the purchase price, Young contacted several lenders and found that she would be able to obtain a mortgage at a 2.80 APR Semiannual compounding that would be locked in for a 10-year term and that she would amortize the mortgage over 25 years, with monthly payments. The money that Young was planning to use for her down payment and closing costs was presently invested and was earning the same effective monthly rate of return as she would be paying on her mortgage. Young assumed that if she were to sell the condominium - say, in the next two to 10 years - she would pay 5 percent of the selling price to realtor fees plus $2,000 in other closing fees.

SCENARIO ANALYSIS

In order to complete a financial analysis of the buy-versus-rent decision, Young realized that her first task would be to determine the required monthly mortgage payments. Next, she wanted to determine the opportunity cost (on a monthly basis) of using the lump-sum required funds for the condominium purchase rather than leaving those funds invested and earning the effective monthly rate, assumed to be equivalent to the mortgage rate. She would then be able to determine additional monthly payments required to buy the condominium compared to renting, including the opportunity cost.

Young wanted to consider what might happen if she chose to sell the condominium at a future date. She was confident that any re-sell would not happen for at least two years, but it could certainly happen in five or 10 years' time. She needed to model the amount of the outstanding principal at various points in the future - two, five or 10 years from now. She then wanted to determine the net future gain or loss after two, five and 10 years under the following scenarios, which she had determined were possible after some due diligence regarding future real-estate prices in the Toronto condo market: (a) The condo price remains unchanged; (b) The condo price drops 10 percent over the next two years, then increases back to its purchase price by the end of five years, then increases by a total of 10 percent from the original purchase price by the end of 10 years; (c) The condo price increases annually by the annual rate of inflation of 2 percent per year over the next 10 years; and (d) The condo price increases annually by an annual rate of 5 percent per year over the next10 years.

FINAL CONSIDERATIONS

Young realized she had a tough decision ahead of her, but she was well trained to make these types of decisions. She also recognized that her decision would not be based on quantitative factors alone; it would need to be based on any qualitative considerations as well. She knew she needed to act soon because condominiums were selling fairly quickly, and she would need to arrange to finance and contact a lawyer to assist in any paperwork if she decided to buy.

Need answer for below questions

1. Findings and Assumptions

• Facts from the case, the expectation of future real estate prices(rent/buy), cost of borrowing, opportunity costs, cost of buying/selling, economy, etc.
• The case was prepared in 2015. What would be your findings of the market situation in 2021/22?
• Describe your assumptions, if any.

2. Analysis

• Calculation of monthly mortgage payment, outstanding mortgage balance.
• Costs to be considered in buy decisions. rent decision.
• Scenario analysis (Condo prices, potential interest rate changes, etc.)
• Qualitative considerations, in addition to quantitative analysis performed above.

3. Recommendation

• What recommendation(s) would you suggest to Rebecca Young and why? Rent or buy?