The Different Appraisal Value Approaches Are Listed Below
3 ways an appraiser values Real Estate
Market Data Approach (or) Sales Comparison Approach
Appraisal Value Approaches or approach to value are common appraisal terms and explained below. Definition Of Market Value: The most probable price which 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, knowledgeably and assuming the price is not affected by undue stimulus. Implicit in this definition is the consummation of a sale as of a specified date and the passing of title from seller to buyer under conditions whereby: (1) buyer and seller are typically motivated; (2) both parties are well informed or well advised, and each acting in what he considers his own best interest; (3) a reasonable time is allowed for exposure in the open market; (4) payment is made in terms of cash in U.S. dollars or in terms of financial arrangements comparable thereto; (5) the price represents the normal consideration for the property sold unaffected by special or creative financing or sales concessions granted by anyone associated with the sale. (FNMA 1004B 6-93)
The market data approach to value is generally the most reliable indicator of value for residential properties. The sales comparison approach is based on the premise that the market value of a property is directly related to the prices of comparable, competitive properties. The value of a property in the market is set by the availability of substitute properties of similar utility and desirability. (This is the principle of substitution which is inherent to the development of the market data approach. This principle affirms that a prudent purchaser will not pay more for one property than it would cost to purchase another of like kind). Value is sustained when the relationships between land and the improvements on land, and between property and its environment are in balance. Externalities such as the neighborhood and the economy can affect property value positively or negatively.
The cost approach is made up of two elements, the land value, and the value of the improvements to the land minus their depreciation. The cost approach is based on a comparison between the cost to develop a property and the value of the existing developed property. Because the market relates value to cost, the cost approach reflects market thinking. Buyers tend to compare the value of existing structures with the prices and rents obtained for similar buildings and with the cost to create new buildings with optimal physical and functional utility. Buyers adjust the prices they are willing to pay by estimating the cost to bring an existing structure up to desired levels of physical and functional utility (depreciation).
The building improvements are estimated based on published construction cost manuals, and the appraisers own survey of local builders. The cost approach is most reliable in areas that have an abundance of land sales and on houses that are relatively young in age.
Income Capitalization Approach
The income approach to value is generally used for valuing investment properties, and in most cases is the least reliable value indicator for single-family residential housing.
From an investor’s perspective, the earning power of a real estate investment is the critical element affecting its value. The fundamental investment premise is the higher the earnings, the higher the value. Investment in an income-producing property represents the exchange of present dollars for the right to receive future dollars.
In the income approach, an appraiser analyzes a property’s capacity to generate benefits and converts these benefits into an indication of present value. The income approach is an integral part of the valuation process. Income capitalization techniques and procedures are employed to analyze and adjust sales data in the sales comparison approach and to measure functional and external obsolescence by capitalizing an estimated income loss in the cost approach.
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