Definition
Paper Profit refers to an increase in the value of a property above its original purchase cost or basis. This gain is considered “unrealized” because it represents potential profit that would be realized only if the property were sold at its current market value. As long as the property remains unsold, the profit remains theoretical or on paper.
Examples
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Residential Property: Sarah purchased a house for $200,000 in 2015. In 2023, the house is appraised at a market value of $300,000. Although Sarah has not sold the house, she has a paper profit of $100,000.
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Commercial Property: Mark bought a commercial building for $500,000 in 2010. In 2022, the building’s value, according to a local real estate appraiser, is $750,000. Without selling the building, Mark’s paper profit stands at $250,000.
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Raw Land: Phyllis acquired a tract of land for $100,000. Recently, the land was appraised at $150,000. Phyllis’s paper profit is $50,000, as she hasn’t sold the land yet.
Frequently Asked Questions
What is the difference between paper profit and realized profit?
A paper profit is an unrealized gain based on the current market value, whereas a realized profit occurs when the property is actually sold, and the gain is converted into cash or another form of tangible profit.
Can paper profit affect my financial statements or taxes?
Paper profits are generally not recorded on income tax returns as they do not represent realized income. However, significant unrealized gains can impact the perceived value of assets on financial statements.
How can I protect my paper profit?
Holding diversified assets, taking out insurance, and staying informed about market trends can help protect the value of your property. However, paper profits are subject to market fluctuations and are inherently speculative until realized.
What risks are associated with paper profits?
The primary risk is that the market value of the property can decrease, turning an unrealized profit into a loss. Changes in market conditions, economic factors, and property-specific issues can affect market value.
Is paper profit considered when applying for a loan?
Lenders may consider paper profit as an indication of property value and asset strength. However, they will primarily focus on income, credit history, and cash flow when deciding loan eligibility.
Related Terms
Realized Profit
Realized Profit is the actual gain obtained once an asset or investment is sold, converting the gain into a tangible form.
Market Value
Market Value is the estimated value that a property would sell for in the open market under current conditions.
Capital Gains
Capital Gains are profits made from selling an asset for more than its purchase price, subject to taxation based on the gain value.
Appraisal
Appraisal is the assessment or estimation of a property’s current market value through a professional evaluator.
Basis
Basis refers to the original purchase price of the property, which is used to determine profit or loss when the property is sold.
Online Resources
- Investopedia - Understanding Unrealized Gains
- National Association of Realtors - Real Estate Market Analysis
- IRS - Capital Gains and Losses
References
- “Real Estate Investing For Dummies” by Eric Tyson and Robert S. Griswold
- “The Millionaire Real Estate Investor” by Gary Keller
- “Investing in Real Estate” by Gary W. Eldred
Suggested Books for Further Studies
- “Principles of Real Estate Practice” by Stephen Mettling and David Cusic
- “Real Estate Market Analysis: Methods and Applications” by John M. Clapp and Stephen D. Messner
- “Real Estate Finance and Investments” by William B. Brueggeman and Jeffrey D. Fisher
