Home' Trinidad and Tobago Guardian : May 10th 2015 Contents MAY 10 • 2015 www.guardian.co.tt SUNDAY BUSINESS GUARDIAN
FINANCIAL ROAD MAP | SBG7
Abraham is a 45-year-
old company director
and property invest-
ment enthusiast. Six
years ago he made a
joint purchase with
two friends: Jason and
Jerome. They split the
cost of $1,080,000 three ways with Abraham
taking up one half of the total amount. The
townhouse was a fixer-upper, which Jason
undertook to renovate at a cost of $120,000;
the consideration was for him to live there
rent-free until the property was sold or until
the cost of accommodation offset the value
of his investment. The project took one year
to complete and Jason made no other payments
for the period.
Another friend, Julie, a registered real estate
agent put two offers on the table for the guys
The first was to rent the place for $6,700
per month or sell to a motivated buyer at
Abraham was pleasantly surprised by how
much rent the property was able to fetch
knowing that when they acquired it the then
tenant was paying $4,500. Julie attributed the
hike in rent to the improvements Jason did
five years ago in addition to natural market
forces. She gauged that after the improvements
the rent could have been around $5,200.
After considering the offers the friends
agreed to sell and split the proceeds in accor-
dance with each of their stakes in the deal.
But Abraham was perplexed as to how he
should fairly allocate the sale s proceeds in
light of his discussions with Julie.
Abraham also wanted to know how the 15-
year loan at eight per cent he borrowed to
finance his portion of the purchase would
impact his overall returns.
Nick's Assessment & Advice
Table 1 illustrates what it would look like
if the proceeds were split according to each
investor s proportionate share.
The table does not consider the effect of
potential rental income that could have been
collected over the six-year period, which would
ultimately form part of the total return-on-
investment calculation. The other factor to
consider was that the rent would not have
been constant over the period and would
increase naturally due to market forces and
the improvements done.
Jason had the opportunity to occupy the
place for six years rent-free. This means only
he received the full value of this benefit. In
a way, he will owe the venture the value of
the rent foregone minus what his proportionate
entitlements would be at the end of the period.
On the flip side, given that he put out $120,000
for renovations, the venture actually owes him
Julie gave us some pertinent information
that could help us ascertain the movement of
rent prices over the period. This is important
because we need to get an estimate of the
annual accrued rent foregone factoring in the
impact of inflation.
Once this is done, we can better apportion
the proceeds of the sale accounting for the
value received by Jason. For the sake of sim-
plicity we have omitted any possible returns
from reinvesting the rent, the works undertaken
Jason in exchange for accommodation being
the only expection.
Julie advised that after the renovations and
factoring market forces, the rent would have
jumped from $4,500 to $5,200 and then steadi-
ly increased to $6,700 by the beginning of the
seventh year. Applying time value of money
calculations, we discovered that the increase
from $5,200 to $6,700 over the five-year period
translated to an annualised rate of inflation of
5.2 per cent.
Table 2 shows the result of these annual
increments in dollar terms and the cumulative
effect after six years.
The total potential cash flow of $400,180
would have been distributed in accordance
with each person s shareholding.
Treating with renovations
Even though Jason s capital injection pro-
duced a significant increase in potential rent
and property value, he could not claim 100
per cent of it because his proportionate share
in the venture was 25 per cent. This is because
money invested in renovations, for all intents
and purposes, was in fact interest free loan
from Jason to be reclaimed from the venture
in cash or accommodation.
In the final analysis, the distribution could
be a little confusing. Part of the returns is in
the form of cash from the sale proceeds of
$1,600,000. Meanwhile, the other part is a
non-cash item in the form of an accrual of
rent of $400,180 (owed by Jason) which brings
the total value of the investment up to
Jason will use his 25 per cent share of the
accrued rent ($100,045) and his 25 per cent
share of sale proceeds ($400,000) to clear his
total rent debt of $400,180 leaving him with
$99,865. As for Abraham and Jerome; they
will receive $1,000,090 and $500,045 respec-
tively (Refer Table1B).
Unfortunately, while two out of the three
friends saw a significant increases in their net
worth, Jason s value was worse than when he
In no way was the venture affected by Abra-
ham s loan. It did however dilute his personal
returns by way of interest costs. A loan for
$540,000 at eight per cent for 15 years would
have required monthly payments of $5,161.
He would have paid this for six years totaling
$371,592 reducing his principal debt by only
$143,652 down to $396,348 but with $227,940
going towards interest cost ($371,592 - $143,652
(Cases are developed from a combination
of scenarios received from our readers)
If you have any questions or need advice
on today's subject please email me
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