8.3 Proration, Transfer Tax, and Investment Math
Key Takeaways
- Proration divides shared expenses by ownership period; the buyer typically owns the day of closing.
- Find the daily rate, then multiply by the number of days each party owns to allocate the charge.
- A debit is money owed; a credit is money received — prorations create offsetting debits and credits.
- Transfer tax = Sale Price / tax-unit × rate-per-unit; round up to the next whole unit when required.
- Investment basics: profit %, equity, appreciation, and cap rate each rest on a clearly defined base.
Proration fundamentals
Proration splits a shared cost between buyer and seller based on how long each owns the property during the billing period. Property taxes, prepaid insurance, HOA dues, and rent are the usual items.
The method has three steps:
- Find the daily rate: annual amount / 360 (or 365, per the question).
- Count the days each party owns within the period.
- Multiply the daily rate by each party's days.
Most exams use a 360-day year (the 30-day-month or banker's method): 12 months of 30 days each. The buyer customarily owns the day of closing, though some questions specify the seller owns it — always follow the stated convention rather than assuming.
Decide direction before computing dollars. If the seller has prepaid an expense that covers time the buyer will own, the buyer reimburses the seller. If an expense is unpaid and covers time the seller owned, the seller reimburses the buyer. Rent collected in advance flows the opposite way from taxes: a seller who collected next month's rent owes that prepaid rent to the buyer, who will be the landlord.
A worked tax proration
Annual taxes are $3,600, already paid by the seller, and closing is September 1 (360-day year, buyer owns closing day). The seller has used Jan–Aug = 8 months × 30 = 240 days; the buyer will own Sep–Dec = 120 days.
Daily rate = $3,600 / 360 = $10 per day.
Because the seller prepaid the whole year, the buyer must reimburse the seller for the 120 days the buyer owns: 120 × $10 = $1,200.
| Party | Entry | Amount |
|---|---|---|
| Buyer | Debit | $1,200 |
| Seller | Credit | $1,200 |
If taxes were unpaid (paid in arrears), the entries reverse: the seller owes the buyer for the days the seller owned.
Debits and credits
A debit is a charge — money a party owes at closing. A credit is money a party receives or is credited with. Every proration produces a matching debit on one side and a credit on the other.
A quick reference:
- Prepaid item (seller paid ahead): buyer debit, seller credit.
- Arrears item (unpaid, seller's period): seller debit, buyer credit.
- Earnest money already deposited by the buyer: buyer credit.
Knowing which party is debited is worth as much as the dollar amount; exams reward both the number and its direction.
Annual property taxes are $2,400, paid in advance by the seller using a 360-day year. Closing is July 1 and the buyer owns the closing day. How is the proration entered for the buyer?
Transfer tax
Transfer (or conveyance) tax is charged on the sale price per a stated unit. The general formula:
Transfer Tax = (Sale Price / Unit) × Rate per Unit
A common structure is a rate per $500 of price. If the rate is $0.50 per $500 on a $250,000 sale: $250,000 / $500 = 500 units; 500 × $0.50 = $250.
Watch two traps. First, when the price is not an even multiple of the unit, round up to the next whole unit before multiplying. A $250,250 sale at $0.50 per $500 rounds 500.5 units up to 501 units, giving 501 × $0.50 = $250.50. Second, confirm whether the tax is per $500, per $1,000, or per $100 — the unit changes the answer tenfold. Some jurisdictions also exempt the first portion of the price or assess the tax only on the amount above an assumed loan, so read the fact pattern for any base adjustment before dividing.
Investment math
The national exam tests several investment ratios. Each depends on choosing the right base.
Percent of profit (return): Profit = Sale Price − Cost; Profit % = Profit / Cost. A property bought for $200,000 and sold for $250,000 has a $50,000 profit and a 25% return ($50,000 / $200,000). The base is the original cost, not the sale price.
Equity: Equity = Market Value − Loan Balance. A home worth $400,000 with a $260,000 loan has $140,000 equity.
Appreciation: New Value = Original Value × (1 + rate). A $300,000 home appreciating 5% reaches $315,000.
Capitalization rate and return on investment
The capitalization rate links net operating income to value for income property:
Cap Rate = Net Operating Income / Value
A building netting $90,000 valued at $1,000,000 has a 9% cap rate. Rearranged, Value = NOI / Cap Rate, the same IRV circle from Section 8.1.
Cash-on-cash (return on investment) compares annual cash flow to cash invested:
ROI = Annual Cash Flow / Cash Invested
An investor putting $100,000 down and netting $12,000 cash flow earns a 12% cash-on-cash return. Always confirm whether the income figure is gross or net — cap rate and ROI both require net figures.
An investor buys a property for $180,000 and later sells it for $216,000. What is the percent of profit based on the original cost?
Worked Example: Tax Proration at Closing
Prorations split shared costs between buyer and seller as of the closing date. Most exams use a 360-day banker's year (30 days per month) unless told otherwise.
Annual property taxes are $3,600, and the seller has not paid them. Closing is on April 30; the seller is responsible through the day of closing (4 months: January through April).
- Daily tax = $3,600 / 360 = $10 per day.
- Seller's share = 4 months x 30 days x $10 = 120 x $10 = $1,200.
Because taxes are unpaid, the seller credits the buyer $1,200 at closing (a debit to the seller, credit to the buyer), and the buyer will pay the full bill later. If taxes had been prepaid, the proration would reverse - the buyer would reimburse the seller for the unused portion. The exam tests both directions, so always ask: paid or unpaid, and who used the days?