CMPS - Certified Mortgage Planning Specialist Investor Return on Investment Questions and Answers

Question 1

An investor purchases a property for $500,000, making a 20% down payment and incurring $10,000 in closing costs. The property generates a Net Operating Income (NOI) of $30,000 annually. The annual debt service on the loan is $22,000. What is the investor's cash-on-cash return?

Accepted Answer

b) 7.27%

Answer

The cash-on-cash return is calculated by dividing the annual pre-tax cash flow by the total initial cash investment. The total cash invested is the down payment ($500,000 * 20% = $100,000) plus closing costs ($10,000), for a total of $110,000. The annual pre-tax cash flow is the NOI ($30,000) minus the annual debt service ($22,000), which equals $8,000. Therefore, the cash-on-cash return is $8,000 / $110,000 = 7.27%.

Question 2

An investor is analyzing a property with a capitalization rate of 5.5%. The financing available has a loan constant of 6.2%. Which of the following best describes this scenario?

Accepted Answer

c) Negative leverage

Answer

Negative leverage occurs when the cost of borrowing money is greater than the unlevered return generated by the property. In this case, the loan constant (cost of debt) at 6.2% is higher than the capitalization rate (unlevered return) of 5.5%, indicating that the financing costs more than the income it generates, which will reduce the return on equity.

Question 3

Which of the following is a primary limitation of using the Gross Rent Multiplier (GRM) as the sole metric for evaluating an investment property?

Accepted Answer

b) It does not account for the property's operating expenses.

Answer

The Gross Rent Multiplier (GRM) is calculated by dividing the property's price by its gross annual rental income. Its main weakness is that it completely ignores operating expenses like property taxes, insurance, and maintenance. Two properties could have the same GRM but vastly different net incomes and overall profitability due to differing expense ratios.

Question 4

An investor purchased a property several years ago with an initial cash investment of $80,000. This year, the property is projected to produce a pre-tax cash flow of $10,000. Due to loan paydown and market appreciation, the investor's current equity in the property is now $150,000. What is the investor's Return on Equity (ROE) for the current year?

Accepted Answer

c) 6.67%

Answer

Return on Equity (ROE) measures the return on the equity an investor currently has in a property. It is calculated by dividing the annual cash flow by the current equity amount. In this scenario, the annual cash flow is $10,000 and the current equity is $150,000. Therefore, the ROE is $10,000 / $150,000 = 6.67%.

Question 5

When evaluating a real estate investment's total return over its entire holding period, which metric is superior because it accounts for the time value of money, including all cash inflows and outflows from acquisition to disposition?

Accepted Answer

d) Internal Rate of Return (IRR)

Answer

The Internal Rate of Return (IRR) is the metric that calculates the annualized rate of return for an investment by considering all cash flows (initial investment, annual cash flows, and sale proceeds) and the timing of those cash flows. Unlike snapshot metrics like Cap Rate or Cash-on-Cash Return, IRR provides a comprehensive view of an investment's performance over its entire life by incorporating the time value of money.

(CMPS) Certified Mortgage Planning Specialist Practice Test

(CMPS) Certified Mortgage Planning Specialist Practice Test

CMPS - Certified Mortgage Planning Specialist Investor Return on Investment Questions and Answers