ACCT 3200 Lecture Notes - Lecture 4: Lenders Mortgage Insurance, List Of Highest-Grossing Films, Mortgage Insurance

In September of this year, Rudolph refinanced his home. Prior to refinancing, his only outstanding debt

was the balance due on his original mortgage of $110,000. Rudolph needed some additional money to
pay for his child’s college education and to take advantage of an investment opportunity, so upon
refinancing, Rudolph took out a 30-year mortgage for $250,000. To reduce the interest rate on the
mortgage, down to 5%, Rudolph paid $2,500 in points on refinance. Which of the following statements
is correct?

If you haven%u2019t bought the home inprevious questions yet, consider this case. (Even if you bought,you still need to solve this question!)

You are about to purchase your first homefor personal use. The price of the house is $400K. The propertytaxes and casualty insurance are estimated at $200 and $100 permonth respectively; these two costs are each month in your escrow.You are estimating $3,500 in closing fees and expect to get a 15year fixed rate mortgage for a fixed 4.9% with 2 points. Assumetaxes and insurance remain constant for the duration of the loan.Your PMI payment is $200/month and will be needed as long as LTV ismore than or equal to 80%. The appraised value of the house isexpected to rise at 2% each year (end of year). You are in a 30%tax bracket. All tax credits in a given year will be received atthe end of the year. You have two options:

1) You put down $40,000 on the home (plusany points and closing fees) and take out a 360K mortgage.

2) You put down $40,000 on the home (plusany points and closing fees), borrow another $40,000 from youruncle Vini and pay this back at 10% annual effective interest ratewith 4 payments on 02/30/2010, 02/30/2011, 02/30/2012, 02/30/2013(the interest portion of 40K loan from uncle Vini is non-taxdeductable). You get a 320K mortgage.

You take out the mortgage and buy the houseon March 1 2009. The first payment of the mortgage is due at thebeginning of April 2009. You will sell the property on April1^st 2024 (15 years later) at appraised value. MARR is10% per year compounded monthly. What is the present cost of thesetransactions at March 1^st 2009 under each option (attachspreadsheet):

Option 1________________

Option 2________________

Should you borrow from theuncle?____________

It is now late May 2018 and you, CPA, have just finished meetingwith your partner, Ms. Wong. Ms. Wong wants your help with someclients of hers.

One client, Garden Supplies Co. (GSC) has had a new shareholderbuy shares. Ms. Wong wants you to tell her if GSC is a resident ofCanada for tax purposes in 2018 and describe the personal taxconsequences that Mrs. Gardiner will have from her 2018 share sale.You can ignore the acquisition of control rules. Also, given thelist of GSC’s 2018 expenditures in Exhibit I, calculate the total2018 expenses that are deductible in 2018 when computing net incomefor tax purposes. GSC is very profitable and wants to claim themaximum amount of deductions possible. You do not need to commenton non-deductible items.

Note: Additional information about GSC is provided in ExhibitI.

Another client, Mr. Rich, who is a non-resident of Canada, hasjust purchased a newly built townhouse in Canada for $1,500,000that he plans to rent out. The home was purchased on May 1, 2018and will be rented out starting on July 1, 2018. What Canadianincome tax obligations will Mr. Rich face in 2018? If you have anyrecommendations that will reduce Mr. Rich’s Canadian income taxobligations (in 2018 or in future years) with respect to his rentalproperty, then you should provide them. Additional informationabout Mr. Rich is provided in Exhibit II.

Ms. Wong wants you to draft a memo to her answering herquestions. She says you can ignore provincial income taxes, ignoreforeign taxes and ignore any income tax treaties. Explain youranswers, show all your detailed calculations and give IncomeTax Act (ITA) section, subsection and paragraph (whereapplicable) references and Income Tax Regulations sectionand subsection references in order to support your answers. Whengiving references you must be specific. Do not just list multiplereferences!

Exhibit I

Garden Supplies Co.

Garden Supplies Co (GSC) is a private company that wasincorporated in Canada in 1963 by Mr. Taft. Mr. Taft subscribed for1,000 common shares in return for $100 (in aggregate). GSC does nothave any other shares outstanding

GSC has a December 31^st year-end and its board ofdirectors meetings are typically held in the United States(U.S.)

GSC operates gardening supply stores in Canada and it startedwith one store in Toronto in 1963. Now it has 10 stores throughoutCanada

In 2005, Mr. Taft sold his shares to Mrs. Gardiner for $1M inaggregate (which was their FMV at the time)

In late January 2018, Mrs. Gardiner sold 600 of her GSC commonshares for $3,000 per share to Marcus Jones, an arm’s length person(she still owns 400 common shares of GSC)

In January 2018, Mrs. Gardiner paid $3,500 to a charteredbusiness valuator to value her GSC shares and paid $2,500 in legalfees related to her sale of GSC shares

The FMV of GSC was determined to be $3M

Mrs. Gardiner incurred $300 of safety deposit box rental fees in2018 and she keeps her GSC share certificates in her safety depositbox

Assume GSC is not a qualified small business corporation

Marcus Jones is a non-resident of Canada

In 2018 GSC incurred the following expenditures:

Income taxes paid of $124,500

Salary and wages expense paid of $390,000

In addition, GSC accrued a bonus payable to Mrs. Gardiner of$70,000 for work performed in 2018. This bonus will not be paiduntil May 31, 2019

Interest expense paid of $5,000 on a bank loan used to financebusiness operations

Dividends paid to shareholders of $55,000

Warranty expense accrued of $25,000 (based on estimated warrantycosts). The actual cost in 2018 of servicing warranties was$20,000

Purchased new shelving units to display merchandise on April 1,2018 for $200,000

Purchased new computer software for $3,000 on January 1,2018

Purchased goodwill for $40,000 as part of a business acquisitionon January 1, 2018

Purchased a patent, with an 18-year legal life remaining onDecember 31, 2018 for $10,000

Accrued office supply expenses of $12,000, for suppliespurchased (and used) in late 2018. Payment of this account payablewas made in early 2019

Paid $7,000 for Toronto Blue Jays (baseball) tickets used totake large customers out to games

Incurred $4,000 of legal fees related to obtaining bankfinancing, and

Incurred lobbying expenses of $1,300 for matters related to thebusiness

Assume all expenditures are reasonable unless otherwiseindicated

Assume the prescribed interest rate is 1% at all times

Exhibit II

Mr. Rich

Mr. Rich’s rental income is property income; i.e., he is notrunning a business

Mr. Rich wants to minimize his Canadian rental income and hedoes not have any other Canadian income

Mr. Rich has prepared the following (assume that all theexpenses below are paid in 2018 and are reasonable):

Mr. Rich’s Canadian Rental Income

For the year-ended December 31, 2018

Gross rental revenue ($4,000 permonth) $24,000

Mortgage interest ($2,200 permonth) $13,200

Property taxes ($610 permonth) $3,660

Maintenance and repairs ($500 permonth) $3,000

Insurance ($200 permonth) $1,200

Total expenses $21,060

Netincome $2,940