Final answer:
a. The Jacobys' after-tax cost of renting the home for the first year is $29,121. b. The approximate break-even point in years for paying the points to receive a reduced interest rate is 18. c. The after-tax cost of living in the home for 2018 is $11,441.
Step-by-step explanation:
a.
To calculate the Jacobys' after-tax cost of renting the home for the first year, we need to consider the monthly rent and the income from their savings account. The monthly rent is $2,600, so the total cost for the year is $2,600 multiplied by 12, which equals $31,200. They also have $42,000 in their savings account, which earns 4.95 percent annual interest. Therefore, the income from their savings account for the year is $42,000 multiplied by 4.95 percent, which equals $2,079.
Subtracting the income from their savings account from the total cost of renting, their after-tax cost of renting the home for the first year is $31,200 minus $2,079, which equals $29,121.
b.
The break-even point in years for paying the points to receive a reduced interest rate can be calculated by comparing the total cost of the loan with and without the points. Let's assume the loan amount is $130,000, the interest rate is 5.70 percent, and the loan term is 30 years.
First, calculate the monthly payment without paying points using the formula: Loan amount multiplied by monthly interest rate.
Next, calculate the monthly payment with paying points by reducing the interest rate to 4.50 percent and using the same formula. Subtract the monthly payment with points from the monthly payment without points to get the monthly savings resulting from paying points.
Divide the points paid by the monthly savings to determine the number of months it would take to recoup the cost of paying the points. Finally, divide the number of months by 12 to get the break-even point in years.
c.
The after-tax cost of living in the home for 2018 includes the interest paid on the loan and the property taxes. The interest rate is 5.70 percent, the loan amount is $130,000, and the property taxes are $3,950.
First, calculate the annual interest paid on the loan by multiplying the loan amount by the interest rate. Next, calculate the annual after-tax interest paid by subtracting the tax savings from the tax deduction using the formula: Annual interest paid multiplied by the marginal tax rate.
Add the annual after-tax interest paid to the property taxes to get the total after-tax cost of living in the home for 2018.
d.
To determine the gain or loss on the sale of their home, subtract the adjusted basis from the selling price. The selling price is $198,000, and the adjusted basis is the original purchase price plus any improvements minus any depreciation or casualty losses. In this case, the adjusted basis is $172,000 (purchase price) plus any improvements.
d2. To calculate the taxes they must pay on the gain, if any, subtract the adjusted basis from the selling price. Multiply the result by the tax rate to get the amount of taxes they must pay on the gain.
If they sell the home for $159,000 and pay a $7,500 commission, the selling price would be adjusted to $151,500. Subtracting the adjusted basis of $172,000, their realized and recognized loss on the sale of their home is $20,500.
Since they incurred a loss, they do not have any gain to be taxed, so they don't have to pay any taxes on the sale.