You are considering an option to purchase or rent a single-family residential property in Destin, FL. You can rent it for $13,500 per year, and the owner would be responsible for maintenance, property insurance, and property taxes. Alternatively, you can purchase this property for $255,000 and finance it with an 90% mortgage loan at 6% interest that will partially amortize over a 30-year period with a remaining balance of $35,000. The loan can be prepaid at any time with no penalty.

You have done research in the market area and found that:

(1)   Properties have appreciated at an annual rate of approximately 10% per year, and you expect this trend to continue for the next 5 years given excess demand in the housing submarket. Beginning in year 6, you anticipate that house price appreciation will revert to its steady state at 5% per year.

(2)   Rents on similar properties have increased at 5% annually, and you anticipate that rent appreciation will remain fixed at this level for the foreseeable future.

(3)   You will be required to purchase private mortgage insurance from a third party insurer since your down payment is less than the required 20%. Based on the size of your down payment and credit score, the insurer has quoted you an insurance rate of 0.75% per year of the original loan amount. Once the loan-to-value ratio falls to 80%, assume that you will request cancellation of the private mortgage insurance.

(4)   Maintenance is currently $2,750 and is expected to increase by 3% each year.

(5)   You are in a 28% marginal tax rate.

(6)   You plan on occupying the property as your primary residence for the next 10 years.

(7)   The capital gains exclusion for a single individual would apply when you sell the property.

(8)   Selling costs would be 10% in the year of sale.

(9)   Property taxes have generally been about 2% of property value each year

Given the above information,

a) In order to earn a 20 percent IRR after taxes on your equity, should you buy the property or rent it for a 10-year period?

b) Suppose your expected period of ownership was to change to 15 years. Would owning or renting be better if you wanted to earn a 20 percent IRR after taxes?

c) Suppose the loan was fully amortizing rather than partially amortizing. How would your answer to part (b) change?