CMPS Investor Return on Investment 5 — Questions and Answers
Question 1: A CMPS specialist advises a client on a cash-out refinance to fund a new investment. The primary ROI risk of this strategy is:
- The client may lose depreciation benefits
- Increased debt service reducing cash flow if the new investment underperforms (Correct answer)
- The interest rate will always be higher than a purchase loan
- The LTV cannot exceed 50% on investment properties
Correct answer: Increased debt service reducing cash flow if the new investment underperforms
Cash-out refinancing increases debt obligations; if the redeployed capital earns less than the new debt costs, overall ROI declines.
Question 2: Which best describes 'negative leverage' in real estate investment?
- When the loan interest rate exceeds the property's cap rate (Correct answer)
- When the cap rate exceeds the loan interest rate
- When the LTV is below 50%
- When cash flow is positive but appreciation is negative
Correct answer: When the loan interest rate exceeds the property's cap rate
Negative leverage occurs when the cost of debt (interest rate) is higher than the property's cap rate, meaning borrowing actually reduces the investor's return.
Question 3: An investor earns $15,000 annually in cash flow and $8,000 in annual principal paydown on a rental property. Which return measure captures BOTH components?
- Capitalization rate
- Total return on equity (Correct answer)
- Gross rent multiplier
- Debt service coverage ratio
Correct answer: Total return on equity
Total return on equity combines cash-on-cash yield with equity buildup (principal reduction), giving a fuller picture of investment performance.
Question 4: Under what condition would an investor prefer an interest-only mortgage over a fully amortizing loan?
- When seeking maximum principal paydown for long-term equity growth
- When maximizing short-term cash flow in a value-add strategy with a planned near-term sale (Correct answer)
- When the DSCR requirement from the lender is very high
- When the investor plans to hold the property for 30 years
Correct answer: When maximizing short-term cash flow in a value-add strategy with a planned near-term sale
Interest-only loans maximize near-term cash flow by eliminating principal payments, ideal for short-hold value-add deals before a sale.
Question 5: A property generates $36,000 in annual gross rents, has a 10% vacancy rate, and $12,000 in operating expenses. What is the NOI?
- $24,000
- $20,400 (Correct answer)
- $32,400
- $36,000
Correct answer: $20,400
Effective gross income = $36,000 × 0.90 = $32,400; NOI = $32,400 - $12,000 = $20,400.
Question 6: What does a Net Present Value (NPV) greater than zero indicate about a real estate investment?
- The investment returns less than the required rate
- The investment generates returns exceeding the investor's required rate of return (Correct answer)
- The property is overpriced
- The cap rate exceeds the discount rate
Correct answer: The investment generates returns exceeding the investor's required rate of return
A positive NPV means the discounted cash flows exceed the initial investment cost, indicating the deal exceeds the investor's minimum return threshold.
Question 7: A mortgage planner helps an investor understand that refinancing to a lower rate increases ROI primarily by:
- Raising the property's appraised value
- Reducing annual debt service and increasing net cash flow (Correct answer)
- Eliminating the need for a DSCR calculation
- Shortening the remaining loan term automatically
Correct answer: Reducing annual debt service and increasing net cash flow
A lower interest rate reduces monthly payments, decreasing total debt service and increasing the cash flow retained by the investor.
CMPS Investor Return on Investment 5
A CMPS specialist advises a client on a cash-out refinance to fund a new investment.
The primary ROI risk of this strategy is: