One of the primary benefits that contribute to real estate value is
income
One of the primary benefits that contribute to real estate value is
appreciation
One of the primary benefits that contribute to real estate value is
use
One of the primary benefits that contribute to real estate value is
tax benefits
Ownership of real estate produces income when there are leases on the land, the improvements, or on air, surface, or subsurface rights. Such income is part of real estate value because
an investor will pay money to buy the income stream generated by ownership of the property
Appreciation is
an increase in the Market Value of a parcel of land over time, usually resulting from a general rise in sale prices of real estate throughout a market area. Such an increase, whether actual or projected, is another investment benefit that contributes to r
The way a property is used, for instance, whether residential, commercial, agricultural, recreational, in large part determines the
property's value. Each kind of use has its own benefits
Depending on current tax law, tax benefits from ownership of a property may take the form of
preferred treatment of capital gain, tax losses, depreciation, and deferrals of tax liability. These tax benefits contribute to the income and potential sale price of a property
Depending on current tax law, tax benefits from ownership of a property may take the form of preferred treatment of capital gain, tax losses, depreciation, and deferrals of tax liability. These tax benefits contribute to the
income and potential sale price of a property
One of the economic principles underlying real estate value is
Supply and Demand
One of the economic principles underlying real estate value is
change
One of the economic principles underlying real estate value is
utility
One of the economic principles underlying real estate value is
highest and best use
One of the economic principles underlying real estate value is
transferability
One of the economic principles underlying real estate value is
conformity
One of the economic principles underlying real estate value is
anticipation
One of the economic principles underlying real estate value is
progression and regression
One of the economic principles underlying real estate value is
substitution
One of the economic principles underlying real estate value is
assemblage
One of the economic principles underlying real estate value is
contribution
One of the economic principles underlying real estate value is
subdivision
The availability of certain properties interacts with the strength of the demand for those properties to establish prices. When demand for properties exceeds supply, a condition of scarcity exists, and real estate values
rise. When supply exceeds demand, a condition of surplus exists, and real estate values decline. When Supply and Demand are generally equivalent, the market is considered to be in balance, and real estate values stabilize
The availability of certain properties interacts with the strength of the demand for those properties to establish prices. When demand for properties exceeds supply,
a condition of scarcity exists, and real estate values rise. When supply exceeds demand, a condition of surplus exists, and real estate values decline. When Supply and Demand are generally equivalent, the market is considered to be in balance, and real es
The availability of certain properties interacts with the strength of the demand for those properties to establish prices. When demand for properties exceeds supply, a condition of scarcity exists, and real estate values rise. When supply exceeds demand,
a condition of surplus exists, and real estate values decline. When Supply and Demand are generally equivalent, the market is considered to be in balance, and real estate values stabilize
The availability of certain properties interacts with the strength of the demand for those properties to establish prices. When demand for properties exceeds supply, a condition of scarcity exists, and real estate values rise. When supply exceeds demand,
decline. When Supply and Demand are generally equivalent, the market is considered to be in balance, and real estate values stabilize
The availability of certain properties interacts with the strength of the demand for those properties to establish prices. When demand for properties exceeds supply, a condition of scarcity exists, and real estate values rise. When supply exceeds demand,
balance and real estate values stabilize
The principal of Utility reflects the fact that
a property has a use in a certain marketplace that contributes to the demand for it. Use is not the same as function. For instance, a swampy area may have an ecological function as a wetland, but it may have no economic utility if it cannot be put to some
The principal of Transferability relates to
how readily or easily title or rights to real estate can be transferred affects the property's value. Property that is encumbered has a value impairment since buyers do not want unmarketable title. Similarly, property that cannot be transferred due to dis
The principal of anticipation are the benefits a buyer expects to derive from a property over a holding period influence what the buyer is willing to pay for it. For example,
if an investor anticipates an annual rental income from a leased property to be one million dollars, this expected sum has a direct bearing on what the investor will pay for the property
According to the principle of substitution, a buyer will pay no more for a property than the buyer would have to pay for an equally desirable and available substitute property. For example,
if three houses for sale are essentially similar in size, quality and location, a potential buyer is unlikely to choose the one that is priced significantly higher than the other two
The principal of contribution focuses on
the degree to which a particular improvement affects Market Value of the overall property. In essence, the contribution of the improvement is equal to the change in Market Value that the addition of the improvement causes
Contribution Example
Adding a bathroom to a house may contribute an additional $15,000 to the appraised value. Thus the contribution of the bathroom is $15,000. Note that an improvement's contribution to value has little to do with the improvement's cost. The foregoing bathro
This principle of Change relates to market conditions are in a state of flux over time, just as the condition of a property itself changes. These fluctuations and changes will affect the benefits that can arise from the property, and should be reflected i
the construction of a neighborhood shopping center in the vicinity of a certain house may increase the desirability of the house's location, and hence, its value
This principle of Highest and best use holds that there is, theoretically, a single use for a property that produces the greatest income and return. A property achieves its maximum value when it is put to this use. If the actual use is not the highest and
a property with an old house on it may not be in its highest and best use if it is surrounded by retail properties. If zoning permits the property to be converted to a retail use, its highest and best use may well be retail rather than residential
The principle of Conformity holds that a property's maximal value is attained when its form and use are in tune with surrounding properties and uses. For example,
a two bedroom, one bathroom house surrounded by four bedroom, three bathroom homes may derive maximal value from a room addition
Progression is when
the value of a property influences, and is influenced by, the values of neighboring properties. If a property is surrounded by properties with higher values, its value will tend to rise
The principals of Assemblage, or the conjoining of adjacent properties, sometimes creates a
combined value that is greater than the values of the unassembled properties. The excess value created by assemblage is called Plottage Value
The principals of Assemblage, or the conjoining of adjacent properties, sometimes creates a combined value that is greater than the values of the unassembled properties. The excess value created by assemblage is called
Plottage Value
The division of a single property into smaller properties can result in a higher total value. For instance,
a one acre suburban site appraised at $50,000 may be subdivided into four quarter acre lots worth $30,000 each. This principle contributes significantly to the financial feasibility of subdivision development
The purpose of an appraisal influences an estimate of the value of a parcel of real estate. This is because
there are different types of value related to different appraisal purposes
One type of real estate value is
mortgage
One type of real estate value is
condemned
One type of real estate value is
book
One type of real estate value is
assessed
One type of real estate value is
insured
One type of real estate value is
plottage
One type of real estate value is
leasehold
One type of real estate value is
salvage
One type of real estate value is
rental
One type of real estate value is
replacement
One type of real estate value is
appraised
One type of real estate value is
reproduction
One type of real estate value is
reversionary
One type of real estate value is
market
Market Value is
an estimate of the price at which a property will sell at a particular time. This type of value is the one generally sought in appraisals and used in brokers estimates of value
Reproduction value is
the value based on the cost of constructing a precise duplicate of the subject property's improvements, assuming current construction costs
Replacement value is
the value based on the cost of constructing a functional equivalent of the subject property's improvements, assuming current construction costs
Salvage Value refers to the
nominal value of a property that has reached the end of its Economic Life. Salvage Value is also an estimate of the price at which a structure will sell if it is dismantled and moved
Plottage Value is
an estimate of the value that the process of assemblage adds to the combined values of the assembled properties
Assessed Value is
the value of a property as estimated by a taxing authority as the basis for ad valorem taxation
Condemned value is
the value set by a county or municipal authority for a property which may be taken by eminent domain
Depreciated value is
a value established by subtracting accumulated depreciation from the purchase price of a property
Reversionary value is
the estimated selling price of a property at some time in the future. This value is used most commonly in a proforma investment analysis where, at the end of a holding period, the property is sold and the investor's capital reverts to the investor
Appraised value is
an appraiser's opinion of a property's value
Rental value is
an estimate of the rental rate a property can command for a specific period of time
Leasehold value is
an estimate of the Market Value of a lessee's interest in a property
Insured value is
the face amount a casualty or hazard insurance policy will pay in case a property is rendered unusable
Book value is
the value of the property as carried on the accounts of the owner. The value is generally equal to the acquisition price plus capital improvements minus accumulated depreciation
Mortgage value is
the value of the property as collateral for a loan
Market Value is an opinion of the price that a willing seller and willing buyer would probably agree on for a property at a given time if
the transaction is a cash transaction
Market Value is an opinion of the price that a willing seller and willing buyer would probably agree on for a property at a given time if
the property is exposed on the open market for a reasonable period
Market Value is an opinion of the price that a willing seller and willing buyer would probably agree on for a property at a given time if
buyer and seller have full information about market conditions and about potential uses
Market Value is an opinion of the price that a willing seller and willing buyer would probably agree on for a property at a given time if
there is no abnormal pressure on either party to complete the transaction
Market Value is an opinion of the price that a willing seller and willing buyer would probably agree on for a property at a given time if
buyer and seller are not related (it is an "arm's length" transaction)
Market Value is an opinion of the price that a willing seller and willing buyer would probably agree on for a property at a given time if
title is marketable and conveyable by the seller
Market Value is an opinion of the price that a willing seller and willing buyer would probably agree on for a property at a given time if
the price is a "normal consideration," that is, it does not include hidden influences such as special financing deals, concessions, terms, services, fees, credits, costs, or other types of consideration
Market value is
the highest price that a buyer would pay and the lowest price that the seller would accept for the property
The market price, as opposed to Market Value, is
what a property actually sells for
Market price should theoretically be the same as Market Value if
all the conditions essential for Market Value were present
Market price may Not reflect the analysis of
comparables and of investment value that an estimate of Market Value includes
An appraisal is distinguished from other estimates of value in that
it is an opinion of value supported by data and performed by a professional, disinterested third party
Appraisers acting in a professional capacity are regulated by state laws and bound to
standards set by the appraisal industry
Appraisers acting in a professional capacity are regulated by
state laws and bound to standards set by the appraisal industry
A broker's opinion of value may resemble an appraisal, but it differs from an appraisal in that
it is not necessarily performed by a disinterested third party or licensed professional and it generally uses only a limited form of one of the three appraisal approaches. In addition, the opinion is not subject to regulation, nor does it follow any parti
An appraisal is used in real estate decision making to
estimate one or more types of value, depending on the kind of decision to be made
Appraisals may be ordered and used by
mortgage lenders, government agencies, investors, utilities companies, and real estate buyers and sellers
An appraisal helps in
setting selling prices and rental rates, determining the level of insurance coverage, establishing investment values, and establishing the value of the real estate as collateral for a loan
One way an appraisal helps is in
setting selling prices and rental rates
One way an appraisal helps is in
determining the level of insurance coverage
One way an appraisal helps is in
establishing investment values
One way an appraisal helps is in
establishing the value of the real estate as collateral for a loan
The most commonly used form for residential appraisals is the ______ promoted by the Federal National Mortgage Association (FNMA) and Federal Home Loan Mortgage Corporation (FHMLC) (known as Fannie Mae and Freddie Mac, respectively)
Uniform Residential Appraisal Report (URAR)
A systematic procedure enables an appraiser to
collect, organize and analyze the necessary data to produce an appraisal report
The first step in an appraisal process is to
define the appraisal problem and the purpose of the appraisal
One thing that is involved in defining an appraisal problem and its purpose is
identifying the subject property by legal description
One thing that is involved in defining an appraisal problem and its purpose is
specifying the interest to be appraised
One thing that is involved in defining an appraisal problem and its purpose is specifying the purpose of the appraisal, for example,
to identify Market Value for a purchase, identify rental levels, or establish a value as collateral for a loan
One thing that is involved in defining an appraisal problem and its purpose is
specifying the date for which the appraisal is valid
One thing that is involved in defining an appraisal problem and its purpose is
identifying the type of value to be estimated
The second step in an appraisal process is to
collect, organize and analyze relevant data about the subject property. Information relevant to the property includes notes and drawings from physical inspection of the subject, public tax and title records, and Reproduction Costs. Relevant information ab
The third step in an appraisal process is to
analyze market conditions to identify the most profitable use (highest and best use) for the subject property. This use may or may not be the existing use
The fourth step in an appraisal process is to
estimate the land value of the subject. An appraiser does this by comparing the subject site, but not its buildings, with similar sites in the area, and making adjustments for significant differences
The fifth step in an appraisal process is to apply the three basic approaches to value to the subject, which is
the Sales Comparison Approach, the cost approach, and the Income Capitalization Approach. Using multiple methods serves to guard against errors and to set a range of values for the final estimate
The sixth step in an appraisal process is to reconcile the value estimates produced by the three approaches to value into a final value estimate. To do this, an appraiser must
weigh the appropriateness of a particular approach to the type of property being appraised, and, take into account the quality and quantity of data obtained in each method
The seventh and final step in an appraisal process is to
present the estimate of value in the format requested by the client
The Sales Comparison Approach, also known as the
market data approach, is used for almost all properties. It also serves as the basis for a broker's opinion of value
The Sales Comparison Approach, also known as the market data approach, is used for
almost all properties. It also serves as the basis for a broker's opinion of value
The Sales Comparison Approach, also known as the market data approach, is used for almost all properties. It also serves as the basis for
a broker's opinion of value
A Sales Comparison Approach is based on the principle of
substitution, that a buyer will pay no more for the subject property than would be sufficient to purchase a comparable property, and, contribution, that specific characteristics add value to a property
The Sales Comparison Approach is widely used because it takes into account
the subject property's specific amenities in relation to competing properties
Because of the currency of its data, the Sales Comparison Approach incorporates
present market realities
The Sales Comparison Approach is limited in that
every property is unique. As a result, it is difficult to find good comparables, especially for Special Purpose properties. In addition, the market must be active; otherwise, sale prices lack currency and reliability
The sales comparison approach consists of
comparing sale prices of recently sold properties that are comparable with the subject, and making dollar adjustments to the price of each comparable to account for competitive differences with the subject. After identifying the adjusted value of each com
For a property to qualify as a comparable, for one thing, a property must
resemble the subject in size, shape, design, utility and location
For a property to qualify as a comparable, for one thing, a property must
have sold recently, generally within six months of the appraisal
For a property to qualify as a comparable, for one thing, a property must
have sold in an arm's length transaction
An appraiser considers
three to six comparables, and usually includes at least three in the appraisal report
An appraiser considers three to six comparables, and usually includes
at least three in the appraisal report
Appraisers have specific guidelines within the foregoing criteria for selecting comparables, many of which are set by secondary market organizations such as
FNMA
To qualify as a comparable for a mortgage loan appraisal, a property might have to be located within one mile of the subject. Or perhaps the size of the comparable must be within a certain percentage of improved area in relation to the subject. The time o
transactions that occurred too far in the past will not reflect appreciation or recent changes in market conditions. An arm's length sale involves objective, disinterested parties who are presumed to have negotiated a market price for the property. If the
An appraiser adjusts the sale prices of the comparables to account for competitive differences with the subject property. Note that the sale prices of the comparables are known, while the value and price of the subject are not. Therefore,
adjustments can be made only to the comparables' prices, not to the subject's. Adjustments are made to the comparables in the form of a value deduction or a value addition
In appraising, if a comparable property is better than the subject in some characteristic, an amount is
deducted from the sale price of the comparable. This neutralizes the comparable's competitive advantage in an adjustment category
Comparative Property Example
A comparable has a swimming pool and the subject does not. To equalize the difference, the appraiser deducts an amount, say $6,000, from the sale price of the comparable. Note that the adjustment reflects the contribution of the swimming pool to Market Va
The principal factors for comparisons and adjustments in the appraising process are
time of sale, location, physical characteristics, and transaction characteristics
In appraising, an adjustment may be made if
market conditions, market prices, or financing availability have changed significantly since the date of the comparable's sale. Most often, this adjustment is to account for appreciation
In appraising, an adjustment may be made if
there are differences between the comparable's location and the subject's, including neighborhood desirability and appearance, zoning restrictions, and general price levels
In appraising, adjustments may be made for
marketable differences between the comparable's and subject's lot size, square feet of livable area (or other appropriate measure for the property type), number of rooms, layout, age, condition, construction type and quality, landscaping, and special amen
In appraising, adjustments may be made for such differences as
mortgage loan terms, mortgage assumability, and owner financing
In appraising, adding and subtracting the appropriate adjustments to the sale price of each comparable results in an adjusted price for the comparables that indicates the
value of the subject
The last step in a property value approach is to perform a weighted analysis of the indicated values of each comparable. The appraiser, in other words, must identify which comparable values are more
indicative of the subject and which are less indicative
An appraiser primarily relies on experience and judgment to
weight comparables
There is no formula for selecting a value from within the range of all comparables
analyzed. However, there are three quantitative guidelines, they are
the total number of adjustments; the amount of a single adjustment; and the net value change of all adjustments. As a rule, the fewer the total number of adjustments, the smaller the adjustment amounts, and the less the total adjustment amount, the more r
In terms of total adjustments in finding a property value, the comparable with the
fewest adjustments tends to be most similar to the subject, hence the best indicator of
value
If a comparable requires excessive adjustments, it is increasingly
less reliable as an indicator of value. The underlying rationale is that there is a margin of error involved in making any adjustment. Whenever a number of adjustments must be made, the margin of error compounds. By the time six or seven adjustments are m
In finding property value using comparables, the dollar amount of an adjustment represents the variance between the
subject and the comparable for a given item
In finding property value using comparables, if a large adjustment is called for, the comparable becomes
less of an indicator of value
In finding property value using comparables, the smaller the adjustment
the better the comparable is as an indicator of value
If an appraisal is performed for mortgage qualification, the appraiser may be restricted from making adjustments in excess of a certain amount, for example,
anything in excess of 10 to 15% of the sale price of the comparable. If such an adjustment would be necessary, the property is no longer considered comparable
The third reliability factor in weighting comparables is the
total net value change of all adjustments added together
In weighting comparables, if a comparable's total adjustments alter the indicated value only slightly, the comparable is a good indicator of
value
In weighting comparables, if total adjustments create a large dollar amount between the sale price and the adjusted value, the comparable is a
poorer indicator of value
Fannie Mae will not accept the use of a comparable where total net adjustments are in excess of 15% of the sale price. For example,
an appraiser is considering a property that sold for $100,000 as a comparable. After all adjustments are made, the indicated value of the comparable is $121,000, a 21% difference in the comparable's sale price. This property, if allowed at all, would be a
A broker or salesperson who is attempting to establish a listing price or range of prices for a property uses a scaled down version of the appraiser's Sales Comparison Approach called a
comparative market analysis, or CMA (also called a competitive market analysis)
While the CMA serves a useful purpose in setting general price ranges, brokers and agents need to exercise caution in presenting a CMA as an
appraisal, which it is not
Two important distinctions between the an appraisal and a comparative market analysis are
objectivity and comprehensiveness
In performing a comparative market analysis, the broker is not unbiased: he or she is motivated by the desire to obtain a listing, which can lead one to
distort the estimated price
A broker's comparative market analysis is not comprehensive: the broker does not usually consider the full range of data about market conditions and comparable sales that the appraiser must consider and document. Therefore, the broker's opinion will be
less reliable than the appraiser's
The cost approach is most often used for
recently built properties where the actual costs of development and construction are known
The cost approach is used for
Special Purpose buildings, which cannot be valued by the other methods because of lack of comparable sales or income data
One of the strengths of the cost approach is that it
provides an upper limit for the subject's value based on the undepreciated cost of reproducing the improvements
One of the strengths of the cost approach is that it
is very accurate for a property with new improvements which are the highest and best use of the property
One of the limitations of the cost approach is that
the cost to create improvements is not necessarily the same as Market Value
One of the limitations of the cost approach is that
depreciation is difficult to measure, especially for older buildings
The cost approach generally aims to
estimate either the Reproduction Cost or the Replacement Cost of the subject property
Reproduction Cost is
the cost of constructing, at current prices, a precise duplicate of the subject improvements
Replacement Cost is
the cost of constructing, at current prices and using current materials and methods, a functional equivalent of the subject improvements
Replacement Cost is used primarily for
appraising older structures, since it is impractical to consider reproducing outmoded features and materials. However, Reproduction Cost is preferable whenever possible because it facilitates the calculation of depreciation on a structure
A cornerstone of the cost approach is the concept of
depreciation
Depreciation is
the loss of value in an improvement over time
Since land is assumed to retain its value indefinitely, depreciation only applies to
the improved portion of real property
The loss of an improvement's value can come from any cause, such as
deterioration, obsolescence, or changes in the neighborhood
The sum of depreciation from all causes is
accrued depreciation
An appraiser considers depreciation as having three causes, they are
Physical Deterioration, Functional Obsolescence and Economic Obsolescence
Physical Deterioration is
wear and tear from use, decay, and structural deterioration. Such deterioration may be either curable or incurable
Curable Deterioration occurs when
the costs of repair of the item are less than or equal to the resulting increase in the property's value
Curable Deterioration Example
If a paint job costs $3,000, and the resulting value increase is $4,000, the deterioration is considered curable. Incurable Deterioration is the opposite: the repair will cost more than can be recovered by its contribution to the value of the building. Fo
Functional Obsolescence occurs when a property has outmoded physical or design features which are no longer desirable to current users. If the obsolescence is curable, the cost of replacing or redesigning the outmoded feature would be offset by the contri
a lack of central air conditioning. If the Functional Obsolescence is incurable, the cost of the cure would exceed the contribution to overall value, for example, a floor layout with a bad traffic pattern that would cost three times as much as the ending
Economic (or external) obsolescence is
the loss of value due to adverse changes in the surroundings of the subject property that make the subject less desirable. Since such changes are usually beyond the control of the property owner, Economic Obsolescence is considered an incurable value loss
Examples of Economic Obsolescence include
a deteriorating neighborhood, a rezoning of adjacent properties, or the bankruptcy of a large employer
The cost approach consists of
estimating the value of the land "as if vacant;" estimating the cost of improvements; estimating and deducting accrued depreciation; and adding the estimated land value to the estimated depreciated cost of the improvements
To estimate land value, the appraiser uses the
sales comparison method
The sales comparison method of estimating land consist of
finding properties which are comparable to the subject property in terms of land and adjust the sale prices of the comparables to account for competitive differences with the subject property. Common adjustments concern location, physical characteristics,
One of several methods for estimating the reproduction or Replacement Cost of improvements is the
unit comparison method (square foot method). The appraiser examines one or more new structures that are similar to the subject's improvements, determines a cost per unit for the benchmark structures, and multiplies this cost per unit times the number of u
One of several methods for estimating the reproduction or Replacement Cost of improvements is the
Unit in Place Method. The appraiser uses materials cost manuals and estimates of labor costs, overhead, and builder's profit to estimate the cost of constructing separate components of the subject. The overall cost estimate is the sum of the estimated cos
One of several methods for estimating the reproduction or Replacement Cost of improvements is the
Quantity Survey Method. The appraiser considers in detail all materials, labor, supplies, overhead and profit to get an accurate estimate of the actual cost to build the improvement. More thorough than the Unit in Place Method, this method is used less by
One of several methods for estimating the reproduction or Replacement Cost of improvements is the
cost Indexing Method. The original cost of constructing the improvement is updated by applying a percentage increase factor to account for increases in nominal costs over time
One of several methods for estimating the reproduction or Replacement Cost of improvements is the
estimate accrued depreciation. Accrued depreciation is often estimated by the straight line method, also called the economic age life method. This method assumes that depreciation occurs at a steady rate over the Economic Life of the structure. Therefore,
One of several methods for estimating the reproduction or replacement cost of improvements is the
Economic Life, the period during which the structure is expected to remain useful in its original use. The cost of the structure is divided by the number of years of Economic Life to determine an annual amount for depreciation. The straight line method is
One of several methods for estimating the reproduction or Replacement Cost of improvements is the
subtract accrued depreciation from reproduction or Replacement Cost. The sum of accrued depreciation from all sources is subtracted from the estimated cost of reproducing or replacing the structure. This produces an estimate of the current value of the im
One of several methods for estimating the reproduction or Replacement Cost of improvements is to
add land value to depreciated reproduction or Replacement Cost. To complete the cost approach, the estimated value of the land "as if vacant" is added to the estimated value of the depreciated reproduction or Replacement Cost of the improvements. This yie
The Income Capitalization Approach, or income approach, is used for
income properties and sometimes for other properties in a rental market where the appraiser can find rental data
One thing that the Income Capitalization Approach is based on is the principle of
anticipation. The expected future income stream of a property underlies what an investor will pay for the property
One thing that the income capitalization approach is based on is the principle of
substitution. That an investor will pay no more for a subject property with a certain income stream than the investor would have to pay for another property with a similar income stream
The strength of the income approach is that it is used by investors themselves to
determine how much they should pay for a property
In the right circumstances, the income approach provides a good basis for estimating
Market Value
The Income Capitalization Approach is limited in two ways, they are
First, it is difficult to determine an appropriate Capitalization Rate. This is often a matter of judgment and experience on the part of the appraiser. Secondly, the income approach relies on market information about income and expenses, and it can be dif
The Income Capitalization Method consists of
estimating annual net operating income from the subject property, then applying a Capitalization Rate to the income. This produces a principal amount that the investor would pay for the property
Potential gross income is the
scheduled rent of the subject plus income from miscellaneous sources such as vending machines and telephones
An appraiser may estimate potential gross rental income using
current market rental rates (market rent), the rent specified by leases in effect on the property (contract rent), or a combination of both
Scheduled rent is the total rent a property will produce if
fully leased at the established rental rates
Market Rent is determined by
market studies in a process similar to the sales comparison method
Contract rent is used primarily if
the existing leases are not due to expire in the short term and the tenants are unlikely to fail or leave the lease
Effective gross income is
potential gross income minus an allowance for vacancy and credit losses
Vacancy loss refers to an amount of potential income lost because of
unrented space
Credit loss refers to an amount lost because of
tenants failure to pay rent for any reason
Credit loss and Vacancy loss are estimated on the basis of
the subject property's history, comparable properties in the market and assuming typical management quality
The allowance for vacancy and credit loss is usually estimated as a
percentage of potential gross income
Net operating income is
effective gross income minus total operating expenses
Operating expenses include
fixed expenses and variable expenses
Fixed expenses are those that are incurred whether the property is occupied or vacant, for example,
real estate taxes and hazard insurance. Variable expenses are those that relate to actual operation of the building, for example, utilities, janitorial service, management and repairs
Operating expenses typically include
an annual reserve fund for replacement of equipment and other items that wear out periodically, such as carpets and heating systems
Operating expenses do Not include
debt service, expenditures for capital improvements, or expenses not related to operation of the property
The Capitalization Rate is
an estimate of the rate of return an investor will demand on the investment of capital in a property such as the subject. The judgment and market knowledge of the appraiser play an essential role in the selection of an appropriate rate for the subject pro
An appraiser obtains an indication of value from the Income Capitalization Method by
dividing the estimated net operating income for the subject by the selected capitalization rate
The gross rent multiplier (GRM) and gross income multiplier (GIM) approaches are simplified income based methods used primarily for properties that produce or might produce income but are not primarily income properties. Examples are
single family homes and duplexes. The methods consist of applying a multiplier to the estimated gross income or gross rent of the subject. The multiplier is derived from market data on sale prices and gross income or gross rent
The advantage of the income multiplier is that
it offers a relatively quick indication of value using an informal methodology
The income multiplier approach leaves many variables out of consideration such as
vacancies, credit losses, and operating expenses. In addition, the appraiser must have market rental data to establish multipliers
There are two steps in the gross rent multiplier approach
First, select a gross rent multiplier by examining the sale prices and monthly rents of comparable properties which have sold recently. The appraiser's judgment and market knowledge are critical in determining an appropriate gross rent multiplier for the
The gross income multiplier approach (GIM) approach is identical to the GRM approach, except that
a different denominator is used in the formula
In 1989, Congress passed the Financial Institutions Reform, Recovery and Enforcement Act (FIRREA) in response to the savings and loan crisis. This act included provisions to
regulate appraisal
Title XI of FIRREA requires that competent individuals whose professional conduct is properly supervised perform all appraisals used in
federally related transaction
As of January 1, 1993, federally related appraisals must be performed only by
state certified appraisers
A state certified appraiser is
one who has passed the necessary examinations and competency standards as established by each state in conformance with the federal standards stated in FIRREA and USPAP (Uniform Standards of Professional Appraisal Practice). The criteria for certification
The Uniform Standards of Professional Appraisal Practice (USPAP) is
a set of standards, guidelines and provisions for the appraisal industry. It resulted from the cooperation of nine national appraisal organizations in 1985
In appraising, the Competence provision requires appraisers to
assess whether they have the necessary knowledge and competence to perform a specific assignment. If they do not, they must disclose this fact
In appraising, the departure provision permits appraisers to
perform an appraisal that does not meet all the Uniform Standards of Professional Appraisal Practice guidelines provided they have informed the client of the limitations of the incomplete appraisal and if the partial appraisal will not be misleading
Appraisal standards concern
recognized appraisal methods
Appraisal standards concern
definition of due diligence
Appraisal standards concern
how appraisal results are reported
Appraisal standards concern
disclosures and assumptions
Appraisal standards concern
appraisal review
Appraisal standards concern
real estate analysis
Appraisal standards concern
mass appraisals
Appraisal standards concern
personal property appraisals
Appraisal standards concern
business appraisals
Appraisal standards concern
Appraisal standards concern
Appraisal standards concern
compliance with the Code of Professional Ethics and Standards of Professional Practice
Prior to the establishment of state certification programs, the only indication of professional competence for an appraiser was membership in and designation by one of the
national appraisal associations. These associations continue to provide education and recognition of professional accomplishment for appraisers
Taxation on property requires
notice of value
Insurance on property requires
notice of value
The most exact way of determining value is with a
state licensed and certified appraiser
To complete a real estate transaction, a certified appraisal must be used if
the loan will be sold in the secondary market
Another way of determining value is to do a
Comparative Market Analysis (CMA)
Real estate brokers and their associates do comparative market analysis in order to
let the seller know how much the property will probably bring on the open market
Brokers use a range in doing a comparative market analysis rather than
one specific price
A broker cannot do an appraisal unless
he is certified as an appraiser
An appraisal is an
estimate or opinion of value
The goal of the appraiser is to determine
the Market Value, Insurance Value, Salvage Value, and or the Tax Value of a property
One of the goals of an appraiser is to determine
the Market Value of a property
One of the goals of an appraiser is to determine
the Insurance Value of a property
One of the goals of an appraiser is to determine
the Salvage Value of a property
One of the goals of an appraiser is to determine
the Tax Value of a property
Compensation of the appraiser is based on
time and effort, never on the established price of the property
The first step in the appraisal process is to
define the problem
In the first step of the appraisal process, the appraiser has to ask him herself
Why am I doing this appraisal? Is the purpose of this appraisal for Market Value, Insurance Value, Salvage Value, or Tax Value?
If an appraiser is hired to determine Market Value, he or she is looking for
what the sales price would most likely bring in an open market if certain conditions were met
One of the appraiser's ground rules is that
payment must be in cash or its equivalent, the appraiser assumes the buyer is either paying cash for the property or is in the process of obtaining a loan
One of the appraiser's ground rules is that
the buyer and seller must be unrelated and acting without undue influence, menace, or duress
Arms Length transactions means
there is no relationship between a buyer and seller
An appraiser must assume that no one has been
forced into a contract to purchase the property
One of the appraiser's ground rules is that
the property must be marketed for a reasonable time in an open and free flowing market
One of the appraiser's ground rules is that
Both buyer and seller must be well informed consumers
Reconcile estimated values for the final value estimates is
the final step in the appraisal process, in which the appraiser reconciles the estimates of value received from the sales comparison, cost and income approaches to arrive at a final estimate of Market Value for the subject property
An appraiser Never averages comparable sales to obtain a final value, instead the appraiser
evaluates all three methods of appraising property, market data (sales comparison), cost, income, and determines which would be best to use for the property in question
In the appraisal process, lastly, the appraiser may apply the income approach if
the property is income producing. Usually, this is not the case in a residential property
One of several types of appraisal reports is a
a short business letter stating all essential data but not including supporting data
One of several types of appraisal reports is a
short or form that contains all basics of a regular appraisal and is used primarily for homes
One of several types of appraisal reports is a
narrative. The most comprehensive of all appraisal reports, used for commercial and investors
There are many types of value as it relates to real estate, one is
Tax Values used for property taxation
There are many types of value as it relates to real estate, one is
Insurance Values for homeowner's policies
There are many types of value as it relates to real estate, one is
value in Use. Value in Use is the history of income for a commercial property
There are many types of value as it relates to real estate, one is
liquidation value. Liquidation value is the value of the property if it required a fast sale
There are many types of value as it relates to real estate, one is
investment value is the importance to an investor
The most important value for a real estate professional is
Market Value
Market Value is the definition used in all loans using federal money, for example,
for any loans sold on the secondary market to Fannie Mae, Freddie Mac or Ginnie Mae
Market Value is
the most probable price a property should bring in a competitive and open market under all conditions requisite to a fair sale, the buyer and seller each acting prudently and knowledgeably, and assuming the price is not affected by undue stimulus
One assumption of Market Value is that
the seller can provide a marketable title
One assumption of Market Value is that
both buyer and seller are well informed and not related to each other
One assumption of Market Value is that
neither buyer or seller are under duress, menace, or undue influence
One assumption of Market Value is that
market value refers to a specific date
One assumption of Market Value is that
the property is on the open market and exposed for a reasonable time
One assumption of Market Value is that
the terms are cash or its equivalent
One difference between value, price, and cost is that
value is the amount brought in an open market under the above assumptions
One difference between value, price, and cost is that
price is the amount the buyer will actually pay, sometimes with unusual circumstances
One difference between value, price and cost is that
cost is how much cash it takes to build and improve property
Demand means
how much call is there for this property?
Utility means
how useful is the property in connection with the buyer's needs?
Scarcity means
how hard to find is the property, how much of this type of property in this price range is there?
Transferability means
Can the seller provide a marketable title? Is the property free of encumbrances unless clearly stated? Will a lender be willing to loan on the property?
Situs is the Latin word for
location. In real estate location Situs is everything!
A real estate professional can remember the components of value by the term
D U S T S
Highest and Best Use is
the possible use of a property that would produce the greatest net income and thereby develop the highest value
Example of Highest and Best Use
An area of the municipality has developed into commercial office buildings. If there is a vacant piece of land or a single family home in the area one could assume that the highest and best use for this property at that time would be for an office buildin
The appraiser must look at a property as if it were
vacant and as it now sits as improved property
Sometimes the best use of property is to
destroy existing buildings and rebuild new ones
Substitution is
the maximum value of a property tends to be set by the cost of purchasing an equally desirable and valuable substitute property. (Comparison shopping basis for market data approach)
The value of a property increases when
the supply is limited and decreases when there is too much property available
The value of a property increases when
the supply is short, and decrease when there is little demand
Example of Law of Supply and Demand
When a property is placed on the market in an area where few properties are sold from year to year, the property will usually sell quickly. Conversely, when there are many properties to choose from, the market for an individual property will be less. If a
Demand and supply are opposites
the lower the supply, the higher the demand,
Demand and supply are opposites
the higher the supply, the lower the demand
Conformity refers to
an appraisal principle of value based on the concept that the more a property or its components are in harmony with the surrounding properties or components, the greater the value. (The more the properties are alike, the more they retain value.)
Example of Conformity
A million dollar home in a neighborhood of one hundred thousand dollar homes will not usually return the investment. Conversely, a one hundred thousand dollar home in a neighborhood of million dollar homes may benefit because of the value of the million d
Regression and progression occurs between dissimilar properties. This means
the value of the better quality property is affected adversely by the presence of the lesser quality property and a lesser house will benefit from a larger house
Anticipation refers to that a property can
increase or decrease in value in expectation of something in the future such as appreciation or rezoning
Example of Anticipation
If a person discovers that an airport is going to be built in an area and buys the land in anticipation of a future value
Contribution means
the value of any component may or may not give value to the whole
Example of Contribution
A fully remodeled kitchen or bathroom adds to the value of a property. If a kitchen or bathroom has not been remodeled, it would subtract from value. While a finished basement that is below grade is nice to have, the seller may not realize full cost of th
Example of Assemblage
an investor wants to buy property in an area because he or she believes that it will have a future value. He or she purchases one building after another until all the property desired is "assembled". Individually the properties had a lower value, but once
Competition is when
one business attracts another business of similar type; together they may make more money then they would have singularly. Shopping areas in large cities attract shoppers every day because they draw the consumer to the area. Too little shopping does not d
Change refers to
that real property is constantly changing by expanded, stabilizing, declining, or rebirth. A subdivision is built, ages, decays, and is reborn with renovation
Change refers to that real property is constantly changing by
expanded, stabilizing, declining, or rebirth. Shopping areas lose appeal popularity; they revitalize and come back to life again. A subdivision is built, ages, decays, and is reborn with renovation. Housing expands, decays, renews, and expands again
One of the Three Approaches to Value is the
Sales Comparison Approach (also called Market Data Approach)
The Sales Comparison Approach is also called the
Market Data Approach
The Market Data Approach is also called the
Sales Comparison Approach
The Sales Comparison Approach is used for
appraising residential property or vacant land
The Sales Comparison Approach compares the subject property to similar properties and makes adjustments on the basis of
the date of the sale, the location, the physical features, and or amenities
An appraiser is asked to appraise a residential property Example,
The appraiser finds a property which has sold located in the same neighborhood, and wants to use it as a comparable sale. The comparable has more bedrooms than the subject, one less bath, and one less garage. The appraiser will have to subtract the extra
One comparable Memory Tool is
SBA. If the subject property is better, add value to the comparable
One comparable Memory Tool is
CBS. If the comparable property is better, subtract value from the comparable
A comparable has a fireplace and the subject property does not, subtract the fireplace (value) from the comparable. The subject property has a fireplace and the comparable does not, add the fireplace (value) to the comparable. Adding and subtracting is al
comparable sold price, never the subject property
Cost Approach is also called the
Summation Approach
Summation Approach is also called the
Cost Approach
The Cost Approach is used on buildings which do not have market data because they are unusual properties such as
school, post office, library, or a building without income, etc.
Reproduction Cost refers to
replacing with the same materials as original construction (much more expensive!)
Replacement Cost refers to
replace with current materials and methods with utility and function similar to original
Example of Reproduction Cost
An historical building would usually be restored using the original materials as much as possible
Example of Reproduction Cost
If a modern house burned, it would be rebuilt using current materials and methods of construction
Cost can be determined by one of three methods which are
Square Foot Cost, Unit In Place, and Quantity Survey Method
Square Foot Cost is done by
using outside measurement, how many square feet times a cost for either replacement or reproduction
In the Unit in Place Method, the Replacement Cost of a structure is estimated based on the construction cost per unit of measure of individual building components, including material, labor, overhead and builder's profit. Most components are measured in
square feet, although items such as plumbing fixtures are estimated by cost. The sum of the components is the cost of the new structure
Quantity Survey Method refers to
the quantity and quality of all materials (such as lumber, brick, and plaster) and the labor are estimated on a unit cost basis. These factors are added to indirect costs (for example, building permit, survey, payroll, taxes and builders profit) to arrive
Steps involved in the Cost Approach
1. Estimate the value of the land alone as if vacant.
2. Determine either the replacement or Reproduction Cost of the building.
3. Deduct all accrued depreciation from the Replacement Cost.
4. Add the estimated land value to the depreciated replacement or
Depreciation is
a loss in value due to any cause, any condition that adversely affects the value of an improvement. For appraisal purposes, depreciation is divided into 3 classes according to its cause. Physical Deterioration, Functional Obsolescence, and external obsole
One of three types of depreciation is
Physical Deterioration
One of three types of depreciation is
Functional Obsolescence
One of three types of depreciation is
Economic Obsolescence
Physical Deterioration is a reduction in
utility, usefulness or value resulting from physical condition. The deterioration can be divided into either curable (painting or outine maintenance) or incurable types (installing siding on a building which also needs major interior repairs). This form o
Functional Obsolescence is a
loss of value of an improvement due to functional inadequacies, often caused by age or poor design. Outmoded plumbing fixtures, inadequate closet space, poor floor plan, excessively high or low ceilings, or antiquated architecture are all examples of Func
Economic, Environmental, or External Obsolescence is
a loss of value (typically incurable) resulting from factors that exist outside of the property itself; a type of depreciation caused by environmental, social, or economic forces over which an owner has little or no control. This can also be called locati
The Economic, Environmental, or External Obsolescence type of obsolescence is
almost always incurable
The Economic, Environmental, or External Obsolescence type of obsolescence is almost always
incurable
A convenience store locating next to your home is
external absolescence
Effective Age differs from the actual age (chronological age) by such variable factors as
depreciation, quality of maintenance, and the like
Remodeling can extend the Economic Life of a structure by
reducing or mitigating the impact of actual age and increasing the structures life expectancy
Example of Economic Life
If a person maintains a building keeping it in good repair, the "Effective Age" is reduced
Chronological Age is the
actual age in years of the building, based on building date
The "Chronological Age" of a building cannot be
changed
If a building is 20 years old, the "Chronological Age" is
20 years
Physical Life is the
actual age or life of a structure that is considered habitable as opposed to Economic Life
Example of Physical Life
A building sitting vacant without a tenant has a "Physical Life" but there is no Economic Life because there is no income
Economic Life is the
estimated period where an improved property will yield a return over and above economic rent. In the case of an older structure, economic refers to the period during which the remaining improvements are depreciated for tax purposes
Economic Life is the period which
an improvement has value in excess of its Salvage Value
Economic Life is also called Service Life or Useful Life
Useful Life
Economic Rent is also called
Market Rent
Economic Rent is
the amount of rental income a property can generate in an open free market at any given time, compared to contract rent which is the rent agreed to by the parties
When a property has repairs or updating that is economically feasible, it said to be
curable
When the cost is too high, or impossible to fix, or due to outside influences beyond the owner's control, it is said to be
incurable
The Income Approach is used for income generating properties such as
apartments, retail centers, multi-tenant office buildings, etc
Steps Involved in the Income Approach is
a. Estimate annual potential gross income.
b. Subtract an appropriate allowance for vacancy and collection losses to arrive at an effective gross income.
c. Deduct operating expenses (These do NOT include debt service or mortgage payments). This is Net Op
In an Income Approach, if you are given the monthly income and no other information in a problem you must assume that
it is the net income. The first step is to multiply by 12 to find the annual net income, and then finish the problem
One step involved in the Income Approach is to Estimate the price a typical investor would pay for the income produced by this particular class and type of property. This is accomplished by estimating the rate of return that an investor would demand for t
Capitalization (Cap) Rate. Cap rate can also be considered the risk factor in buying a property. The higher the risk (cap rate), the lower the sale price should be
Some appraisers use a technique called gross rent multiplier (for residential) and gross income multiplier (for commercial). At best, this system is an educated guess because it is very difficult to
(a.) find matching properties (b.) find properties whose owners price the rent correctly
By performing the Gross Income Multiplier, the same technique is used for income producing properties such a
convenience store, grocery store, etc. Great care must be used to accurately determine the gross income per year
When using the gross income multiplier, the gross annual income is used, instead of
monthly income
Because of the variables such as location, owner differences, etc., The gross income multiplier is
a highly speculative method of determining value and should only be used as a confirming method, not as a primary method
The Competitive Market Analysis is a tool used by real estate professionals to
obtain a list price
The Competitive Market Analysis is not
an appraisal and should not be advertised as such
To obtain a quality Competitive Market Analysis, certain facts must be obtained. These are
comparable homes (hopefully, in the same subdivision!) with the same number of bedrooms, baths, garages, comparable homes should be close to same age, sold comparables data should not be more than one year old, sold comparables data should use the same ty
Example of Anticipation
If a person has knowledge that a zoning change is about to take place which will make the property more valuable and buys the property in anticipation of a future value increase
Regression is when
the value of a property influences. If it is surrounded by properties with lower values, its value will tend to fall