Ch 8

Question 1

Physical deterioration can be divided into three categories:

Answer 1

Deferred maintenance Short-lived components Long-lived components

Question 2

A 15-year-old boiler with a useful life of 25. If the replacement cost of the boiler is $8,000, the amount of short-lived depreciation attributable to this boiler would be:

Answer 2

15 / 25 or 60%. $8,000 x .60 = $4,800

Question 3

What is the total amount of short-lived depreciation?

Answer 3

Question 4

Assume a replacement cost of $200,000. A portion of that is accounted for by the cost of the short-lived items (the roof, furnace, water heater, etc.) and any deferred maintenance. Let’s say the short-lived items cost $40,000 and there is no deferred maintenance.

Then, remember that the long-lived items are depreciated over the economic life of the whole structure. If the actual age of the building is 15 years and we estimate the total economic life to be 60 years, how much is the depreciation for the Long-lived items?

Answer 4

We subtract $40,000 from $200,000 and get $160,000. This $160,000 figure represents, by default, the cost of the long-lived items.

5/60 or 25%.

Long-lived depreciation is therefore equal to

.25 X $160,000, or $40,000.

Question 5

The house you are appraising has a total cost of $182,844. It is 22 years old (which is also its effective age) and it has an estimated remaining economic life of 28 years.

The cost to cure deferred maintenance items is $1,290.

Short-lived items of depreciation have been identified totaling $3,530. The cost new of these short-lived items is $9,500.

What is the amount of long-lived depreciation attributable to the building?

What is the total physical depreciation attributable to the building?

Answer 5

Total cost new $182,844
Minus deferred maintenance - 1,290
Minus short-lived items cost - 9,500
Cost of long-lived items $172,054

Total life = 22 + 28 = 50 years
Depreciation = 22 / 50 = .44 or 44%

Long-lived depreciation = $172,054 x .44 = $75,704 (rounded to nearest $1)

Long-lived depreciation $75,704
Deferred maintenance cost to cure + 1,290
Short-lived depreciation + 3,530

Total physical depreciation $80,524

Question 6

There are five types of functional obsolescence:

Answer 6

Curable caused by a deficiency requiring an addition

Curable caused by a deficiency requiring substitution or modernization

Curable caused by a superadequacy

Incurable caused by a deficiency

Incurable caused by a superadequacy

Question 7

There is a systematic and repeatable five-step process of estimating functional obsolescence:

Answer 7

Cost of existing item

Less depreciation previously charged

Plus cost to cure (all costs) OR
value of the loss (whichever is the greater amount)

Less cost if installed new

Equals depreciation for functional obsolescence

Question 8

External obsolescence may be estimated in three ways:

Answer 8

Analysis of market data

Allocation of market-extracted depreciation

Capitalization of income loss

Question 9

The x method is the most detailed and comprehensive way to estimate depreciation. It breaks down depreciation into its component parts of physical deterioration, functional obsolescence and external obsolescence and measures each individually.

Answer 9

Breakdown

Question 10

Items of physical deterioration or functional obsolescence that are economically feasible to cure. Economic feasibility is indicated if the cost to cure is equal to or less than the anticipated increase in the value of the property.
Defines

Answer 10

Curable Depreciation

Question 11

Deferred maintenance is considered to be x; the short-lived and long-lived components are x.

Answer 11

curable
incurable

Question 12

What is the total amount of short-lived depreciation?

Answer 12

$6,124

Question 13

Assume a replacement cost of $200,000. Let’s say the short-lived items cost $40,000 and there is no deferred maintenance. If the actual age of the building is 15 years and we estimate the total economic life to be 60 years, how much is depreciation for long-lived items?

Answer 13

We subtract $40,000 from $200,000 and get $160,000. This $160,000 figure represents, by default, the cost of the long-lived items.
15/60 or 25%.
.25 X $160,000, or $40,000.

Question 14

The house you are appraising has a total cost of $182,844. It is 22 years old (which is its effective age) and it has an estimated remaining economic life of 28 years.
The cost to cure deferred maintenance items is $1,290.
Short-lived items of depreciation have been identified totaling $3,530. The cost new of these short-lived items is $9,500.
What is the amount of long-lived depreciation attributable to the building?
What is the total physical depreciation attributable to the building?

Answer 14

$182,844 Total cost new
 - 1,290 Minus deferred maintenance
- 9,500 Minus short-lived items cost
= $172,054 Cost of long-lived items
Total life = 22 + 28 = 50 years
Depreciation = 22 / 50 = .44 or 44%

Long-lived depreciation = $172,054 x .44 = $75,704 (rounded to nearest $1)

$75,704 Long-lived depreciation

+ 1,290 Deferred maintenance cost to cure
+ 3,530 Short-lived depreciation
= $80,524 Total physical depreciation

Question 15

The subject is a building with three apartments without air conditioning, in a market where air conditioning is standard and expected by purchasers. If it had been installed when the building was built, it would have cost $4,000 but the cost of retrofitting now is $4,900.
Installing air conditioning would allow the owner to raise rents and increase his gross monthly rent by a total of $60. The current gross rent multiplier (GRM) is 95. Therefore the increase in property value would be $60 x 95 or $5,700.
The functional obsolescence is curable as the value increase ($5,700) is greater than the cost to cure ($4,900).
How much is the functional obsolescence?

Answer 15

Functional Obsolescence Calculation:
* Cost of existing item 0 

* Less depreciation previously charged - 0 

* Plus cost to cure (all costs) OR 

* value of the loss +5,700 

* Less cost if installed new - 4,000 

* Equals depreciation for functional obsolescence $1,700 
Steps 1 and 2 are zero because the item does not currently exist in the property. 
In Step 3, the loss in value is $5,700. The property would be worth that much more if it had air conditioning.

Question 16

Assume that if the building has air conditioning but it is inadequate and breaks down frequently. The reproduction cost now is $3,000 and it is 30% depreciated. 
It will cost $2,000 to remove the old system but there is a salvage value of $1,000. It will still cost $4,900 to retrofit the new system and it would have cost $4,000 when the building was new. 
It will still add $5,700 to the value of the property. However, the depreciation is now incurable as it costs more to cure the problem ($5,900) than the value it will add.

Answer 16

• Cost of existing item $ 3,000 

• Less depreciation previously charged - 900 

• Plus cost to cure (all costs) OR 

• value of the loss + 5,900 

• Less cost if installed new - 4,000 

• Equals depreciation for functional obsolescence $ 4,000 
In Step 2, the depreciation was calculated as .30 x $3,000, or $900. We already took 30% physical depreciation on this item, so we have to make sure that we don’t double-depreciate. 
In Step 3, the cost to cure will be $5,900 total. This includes $4,900 to retrofit the installation plus $2,000 to remove the old system, minus $1,000 that can be reclaimed as salvage value of the old equipment.

Question 17

Your subject property is a house adjoining a busy interstate highway. A vacant lot next door recently sold for $60,000 and a similar lot with the same zoning, in a quiet location, recently sold for $65,000.
An improved property along the interstate in the next block recently sold for $340,000 and a similar improved property away from the interstate sold for $360,000.
What is the external obsolescence attributable to the building?

Answer 17

There is a premium of $5,000 for less traffic noise.
Here we can see the total property enjoyed a bonus of $20,000 for the location away from traffic noise.
The external obsolescence attributable to the whole property is $20,000 ($360,000 - $340,000).
Pairing the two land sales indicates a loss of $5,000 for the land portion. Therefore, the external obsolescence attributable to the building is $15,000 ($20,000 - $5,000).

Question 18

We have a property that sold for $320,000, of which $60,000 was the land value.
Cost new of the building $340,000
Contributory value of the building $260,000
Physical deterioration $30,700
Functional Obsolescence $$30,000
How much is the External Obsolescence?

Answer 18

Allocation of Market-Based Depreciation:
$340,000
Minus $260,000
= $80,000 Total Depreciation
Minus $30,700
Minus $30,000
= $19,300 External Obsolescence

Question 19

Assume a house that would rent for $1,200 per month in a normal market. In this market that has experienced overbuilding, it can only bring $1,150 per month. The appropriate GRM is 120. How much is the External Obsolescence?

Answer 19

$50 (rent loss) x 120 = $6,000 (external obsolescence)