Question

Problem 4-39 (LO. 2, 5) The Bluejay Apartments, a new development, is in the process of structuring its lease agreements. The company would like to set the damage deposits high enough that tenants will keep the apartments in good condition. The company is actually more concerned abou damage than about tenants not paying their rent. a. Indicate the tax effects of the following alternatives: $1,000 damage deposit with no rent prepayment. $500 damage deposit and $500 rent for the final month of the lease. $1,000 rent for the final two months of the lease and no damage deposit. b. Which alternative do you recommend to maximize deferrals without affecting cash flows?

Answer 1

Answers:

a.)

$1,000 damage deposit with no rent prepayment.	The $1,000 damage deposit is not taxed in the year of receipt.
$500 damage deposit and $500 rent for the final month of the lease.	The damage deposit is not taxable at the time it is collected, but the $500 prepaid rent is taxed in the year of receipt.
$1,000 rent for the final two months of the lease and no damage deposit.	The $1,000 prepaid rent is taxed in the year of receipt.

b.)

The Bluejay Apartments should use the last option. By doing so, it maximizes deferrals without affecting the cash flows.