Chapter 3 Flashcards
The most significant type of value for
real estate licensees is
Market Value
is defined as the price a willing seller will sell for,
and the price a willing buyer will pay, when neither is acting under exceptional pressure. Is also defined as the most probable price.
Market Value
There are four basic characteristics of value: (DUST)
- Demand
- Utility
- Scarcity
- Transferability
there must be a demand for the item and the purchasing power to acquire it
Demand
the item must be needed or wanted
Utiltiy
there must be a limited supply
Scarcity
the item must be able to be sold – ownership rights must be transferable
Transferability
is an opinion. It is an estimate of value.
Appraisal
Appraisers use principles of value to help them arrive at their final opinion. These principles of value
include:
- Highest & Best Use
- Principle of Substitution
- Principle of Conformity
- Principle of Increasing and Decreasing Returns
- Principle of Contribution
- Principle of Regression
- Principle of Competition
- Principle of Change
- Principle of Anticipation
- Principle of Balance
the legal use that gives the greatest return in money and/or amenities.
Highest and best use can be considered the most important detail by an appraiser.
Highest and Best Use
sets an upper limit on price. Maximum value of a property is
set by the cost of acquiring a similar substitute property. This principle is used to demonstrate
the need to price correctly. An overpriced property will not sell.
Principle of Substitution
states that maximum value is found when properties are the
same or have a reasonable degree of similarity. (Price range, amenities, size, etc.)
Principle of Conformity
invest in property whenever each dollar
invested will return a dollar or more of increased value and stop when each dollar invested
returns less than a dollar in value. The result of overimproving a property is also referred to
as the Law of Diminishing Returns.
Principle of Increasing and Decreasing Returns
The result of overimproving a property is also referred to
as the
Law of Diminishing Returns
the value of a part is determined by its contribution to the
total value of the property rather than by its cost.
Principle of Contribution
the presence of lower-valued or declining-valued properties
in the neighborhood leads to a decline in the value of your property. Conversely, the presence
of higher-valued properties will increase the value of your property and this is called
the Principle of Progression.
Principle of Regression
Conversely, the presence
of higher-valued properties will increase the value of your property and this is called
Principle of Progression
an increase in competition will result in decreased profits
for current providers. Competition lowers prices. Success leads to competition. For example:
a very profitable restaurant will usually find a competitor opening nearby.
Principle of Competition
change is constant and is reflected in values. Appraisers must
make adjustments for changes in market conditions, and for time. An appraisal is only
considered to be good for six months.
Principle of Change
purchase price is affected by the expectation of future
appeal and benefits.
Principle of Anticipation
mixed land use should result in maximum value for all properties
involved (master-planned communities demonstrate this principle).
Principle of Balance
In addition to the principles of value, an appraiser must be aware of the other factors that can affect
value including:
market cycles, political actions, economic forces -(rising interest rates can lower
prices), physical or environmental forces, and sociological forces.
The steps in the appraisal process are:
- State the purpose of the appraisal.
- Collect and verify information about the property.
- Estimate value using all three approaches, or as many approaches as needed to get the best
result. - Reconcile the estimates by determining weighted averages. This step is necessary because
the third step will result in up to three different values. Reconciliation completes the process
of determining an exact number rather than a range of value. - Prepare the report. It may be oral, in a letter, on a form, or a narrative report.
FIRREA
the Financial Institutions Reform, Recovery, and Enforcement Act was passed to regulate
the appraisal industry nationwide. This law requires the use of a state-licensed or state-certified
appraiser to perform any appraisal used in connection with a federally related transaction of property
valued at $400,000 or more.
All appraisers must adhere to the
Uniform Standards of Professional Appraisal Practice (USPAP)
outlining how appraisals are developed and communicated.
There are three basic approaches to appraisal:
- Market Data or sales comparison
- Income or capitalization method
- Replacement of reproduction cost approach
market data approach
is used primarily in residential appraisals. It involves comparisons
with known sales in the same area. An appraiser should have 3-5 sales no more than
six months old. In using this approach, the appraiser will add to the value of comparables
when the subject property has more amenities, and deduct from the comparables when the
subject property has less.
The Cost Approach
is used for unique properties, such as churches or government buildings.
It is also used when there are no comparables for a particular property.
Land Value + Building Reproduction Cost - Depreciation = Value
- OR –
Land Value + Replacement Cost - Depreciation = Value
The appraiser considers three types of depreciation in the cost approach
- Physical Deterioration
- Functional Obsolescence
- Economic Obsolescence
Physical deterioration
is ordinary wear and tear. It is curable. This has the least impact on the
appraisal because all buildings have it (chipped paint, worn flooring).
Functional Obsolescence
is brought about by factors in the property. It is often or mostly curable
(inferior materials to cut costs, curb appeal, not enough baths/bedrooms, an unpopular
floorplan, property that lacks updating for modern technology).
Economic obsolescence
is a loss of value due to outside factors. This is also called external
obsolescence, and is incurable (zoning, air pollution, noise, traffic, jobs, etc.) It is also called
environmental obsolescence.
Income Approach
is used for income-producing properties.
Generally, if a property has rent, then use the income approach.
It involves a math formula using the “T” for the calculations.
Net annual income = capitalization rate (rate of return) x market value.
The conversion
of an income stream (rent) into an indication of value is called
Capitalization
GRM
is used for residential properties and stands for Gross Rent Multiplier. The GRM is a
factor based on location and rent – a price per rent.
This number, when multiplied by the monthly rent, gives an estimate of value for the property.
(GRM x rent = price)
GIM
For commercial properties a GIM is used. The GIM (Gross Income Multiplier) is based on annual
rent rather than monthly rent.
Comparative Market Analysis
(CMA) is a tool used by licensees to help sellers determine a realistic
price for their property. A CMA compares a subject property to current listings, recent sales,
and even expired listings of unsold properties. The information from expired listings is the least
important part of the CMA. The result of a CMA is a range of value for a property rather than an
exact price. It is not an appraisal. This is also called a competitive market analysis
A CMA can also be used by a buyer’s agent to help a buyer make a decision about an offering price.
Although a CMA is a useful source of information for both buyers and sellers, remember the list
price is the seller’s responsibility and the offering price is the buyer’s responsibility.
BPO or Broker’s Price Opinion
is basically the same as a CMA. It is a broker’s written opinion
of value. It is most often requested by an attorney or a relocation company, rather than by a principal
to the transaction. BPO’s can also be used by a lender involved in a “short sale” of a distressed
property. A broker usually will receive a fee for preparing a BPO. A sales license holder can prepare
a BPO in the broker’s name
Assessed Value
is the value of your property for tax purposes. The tax rate times the assessed value
will tell you the yearly taxes. Lists of assessed values for all the properties in a taxing district are
found in the assessment rolls, or online. These can be used for comparison purposes.
