Chapter 22 - Comparative and cost approaches of appraisal

Question 1

Basis of comparative approach

Answer 1

Based on the principle that the price paid for a commodity will be equal to the cost of acquiring a substitute under the same market conditions.

An informed buyer will pay no more for a property than the cost of acquiring an existing property that provides the same utility.

Question 2

“Recent” in the context of appraisal

Answer 2

Recent refers to a time period where demand and supply conditions in the market were relatively stable/do not change. The term recent does not suggest a regular time period that can be equated with a set number of weeks, months or years.

Question 3

“Similar” in the context of appraisal

Answer 3

Similar does not mean that the comparable properties are similar to the subject property in every respect, but only regarding the factors that have major influence on buys and sellers, and consequently on the sale price they negotiate.

Question 4

Adjustments to comparable properties

Answer 4

Subject property is the standard of comparison, and each comparable sale is adjusted towards it.

ADD to sale price of comparable when a feature is INFERIOR to subject property.

SUBTRACT to sale price of comparable when a feature is SUPERIOR to subject property.

*** Net adjustments should not exceed 20% of the sale price (with some exceptions due to VTB assumed mortgages)

Question 5

Examples of properties comparative approach is most useful in appraisal

Answer 5

Single detached homes (lots of market data)

Condominiums (common areas must also be compared)

Apartment buildings, warehouses (value based on income producing ability, i.e. income approach)

** Subdivided and serviced ** residential lots (they are partially developed)
- residual method generally used for UNDEVELOPED

Question 6

Limitations to comparative approach

Answer 6

Cannot be used when there have been insufficient market transactions to provide evidence of market value.

For example:
- Subject property is of an unusual kind that is sold or leased infrequently.
- Economic conditions exist that there are very few sales taking place under open market conditions.

Question 7

Cost method of appraisal

Answer 7

Market value = Site value + Cost of improvements - Depreciation

Site value is the market value of the vacant land

Cost of improvements includes all construction costs and associated fees (builders profit, professional fees etc)

Depreciation is when the improvements are not net

*** Relies on the assumption costs = value

Question 8

Illustrate where cost does and does not equal market value

Answer 8

If cost of constructing a building is greater than what it will be worth at completion, new development will cease until building values rise

If it costs less to construct a building that what the building will be worth on completion, there will be an increase in new development

Question 9

Explain how the cost of constructing improvements are represented and estimated (4 types)

Answer 9

Historic cost - cost when originally built

Current cost - cost to build today

Reproduction cost - cost of an exact replica

Replacement cost - cost to build a modern equivalent

Question 10

What are the (3) different categories of depreciation?

Answer 10

Age-life method:
Effective age / Economic life = Depreciation percentage

Market extraction:
Subject’s depreciation is estimated by examining the value loss over time seen in recent sale comparables.

Breakdown method:
(Cost - Salvage value) / Economic life = Depreciation
Details specific value losses into physical, functional, external and depreciation further broken down into curable and incurable categories.
Most detailed/comprehensive method to measure depreciation.

Question 11

Physical curable

Answer 11

Physical wear and tear that can be fixed (“cured”) with minimal economic cost, i.e. old paint colours

Question 12

Functional curable

Answer 12

An outdated feature that can be corrected economically, i.e. bathroom fixtures

Question 13

Physical incurable

Answer 13

Physical wear and tear that cannot be corrected economically, i.e. decaying foundation

Question 14

Functional incurable

Answer 14

An outdated feature that cannot be corrected economically, i.e. poor floor plan

Question 15

External depreciation

Answer 15

Refers to items outside the property itself that impact value and generally outside the control of the owner, therefore considered INCURABLE

Locational external: near airport, so there is significant noise pollution

Economic external: major industry shutdown in community or period of high mortgage rates

Question 16

When is cost approach most useful for appraisal?

Answer 16

Where there is limited data for income and comparison approaches. For example, churches, public buildings, other special use properties.