the thesis of DOOM

Ok, maybe not doom, but boredom for sure. It's done. I am so proud of my husband for finishing this blasted thing so I never have to hear about it again.

If you're brave read the title. If you feel really smart try to read the abstract. I dare you.

TAX-COGNIZANT DISCOUNTED CASH FLOW VALUATION MODEL USING FINANCING AND RISK ELEMENTS: A RETAIL REAL ESTATE INVESTMENT APPROACH

ABSTRACT

An investigation of current real estate investment (REI) discounted cash flow (DCF) models and their applicability to the individual investor in small income properties exposed: a lack of relevancy to the sole proprietor, marginal applicability to analyzing the asset, and a number of inherent shortfalls in modeling cash flows. This paper constructs a tax-cognizant DCF valuation model that addresses financing structure and risk elements while overcoming classical DCF model shortfalls through determination of a minimum holding period, the mitigation of a hypersensitive terminal value, the elimination of circular logic in the discount rate, and the characterization of vacancy risk.

The paper consists of two hypotheses that substantiate the value of a tailored model. First, modeling and simulation of income property vacancy characteristics allows a more accurate assessment of a property’s after-tax cash flows and net present value by recognizing tax implications that would otherwise erroneously price profitability. Second, taxes influence investors in relatively higher tax brackets to seek both longer loan terms and longer minimum holding periods for a positive net present value (NPV); realized through both tax sheltered income and equity appreciation at the long-term capital gains rate. Evaluation of these hypotheses by comparing the classic DCF model to the tailored model yielded the following noteworthy findings. First, modeling and simulation of vacancy frequency and durations derived from market statistics produces a more pessimistic assessment of income. Second, longer rather than shorter term loans have superior value through accumulation of more tax sheltering loan interest early and in greater amounts. Third, investors in relatively higher income tax brackets enjoy greater NPV on their investments due to tax sheltering at the marginal income tax rate and asset disposition at the depreciation recapture and long-term capital gains rates. Fourth, contrary to the initial hypothesis, higher-taxed investors reach a break-even holding period sooner than investors in lower income tax brackets.