Chapter 3: Property Valuation and Financial Analysis

Question 1

What the elements of value?

Answer 1

(D) Demand, the number of buyers for the property
(U) Utility, the property’s possible uses
(S) Scarcity, the availability of similar properties
(T) Transferability, the seller’s ability to transfer good title to a buyer clear of all encumbrances itemized in a title insurance policy

Question 2

What are the influences on value?

Answer 2

(P) Physical (i.e. proximity to commercial amenities, access to transportation, availability of freeways, beaches, lakes, hills, etc.)
(E) Economic (i.e. rents in the area, vacancies and percentage of home ownership)
(G) Government (i.e. property taxes, zoning, and building codes)
(S) Social

Question 3

What is the principal of change as it relates to appraisal?

Answer 3

Refers to the change a property goes through in its life-cycle, composed of four stages: development, stability, decline, renewal.

Question 4

What are the three appraisal approaches and what are they typically used for?

Answer 4

1. Market comparison (sales comparison), primarily used for single family residences
2. Cost approach, used for special use properties such as churches, schools, and public buildings
3. Income approach, used for properties that generate rental income

Question 5

How do you calculate market value using the cost approach?

Answer 5

Value of the vacant lot plus to replacement cost of improvements less obsolescence and physical deterioration (depreciation)

Question 6

What are the two methods to calculate market value using the income approach?

Answer 6

1. Gross rent multiplier, which uses the potential or gross rent multiplied by a gross rent multiplier.
2. Capitalization approach, which determines value based on the property’s future net operating income divided by a capitalization rate.

Question 7

How do you calculate effective gross income?

Answer 7

Gross income less vacancies and collection losses.

Question 8

How do you calculate net operating income?

Answer 8

Effective gross income less operating expenses.

Question 9

What is a cap rate?

Answer 9

The cap rate is comprised of a prudent investor’s expected annual rate of return on monies invested in this type of property (adjusted for inflation and risk premium), and a rate of recovery of their invested monies allocated to the improvements, also called depreciation.

Question 10

What are the methods to calculate a cap rate?

Answer 10

1. Market comparison
2. Band of investment
3. Summation approach

Question 11

What are the three types of appraisal reports?

Answer 11

1. Short form, a filled-in form using checks and explanations
2. Letter form, a brief written report
3. Narrative report, an extensive written report

Question 12

What is the absorption rate?

Answer 12

The estimated time required to sell or lease property within a designated area at its fair market value.

Question 13

Does the cap rate increase or decrease when the risk of loss decreases?

Answer 13

The cap rate will increase.

Question 14

Demand has no effect on value unless there is also:

Answer 14

Purchasing power which enables the ability to buy the thing in demand.

Question 15

What is the definition of fair market value?

Answer 15

The price a reasonable, unpressured buyer and seller would agree to for property on the open market, both having reasonable knowledge of the relevant facts.

Question 16

An appraiser defines “replacement cost” as:

Answer 16

The current cost to build a structure of similar utility using modern methods and materials; the cost to replace an equally desirable property with the same utility value.

Question 17

To arrive at a final estimate of value secured under each of the three appraisal approaches, an appraiser:

Answer 17

An appraiser would explain why or why not the other approaches were not used, then choose the approach the appraiser believes to be the most appropriate. Appraisers never average numbers between appraisal methods.

Question 18

What is the difference between functional and economic obsolescence?

Answer 18

Functional obsolescence is a loss of value due to adverse factors within the structure which affect the utility of the structure, and thus its value and marketability. Economic obsolescence is a loss in value of a property due to external factors and not the condition of the property itself.

Question 19

Which of the following is not an example of functional obsolescence?
A. A swimming pool in a cold climate
B. Proximity of obnoxious nuisances
C. An old kitchen
D. A one car garage

Answer 19

B. Proximity of obnoxious nuisances

Question 20

Which of these most nearly refers to a loss in value due to economic obsolescence?
A. An architectural design which is out of style
B. A zoning change
C. Improper maintenance of the property
D. An increased demand for more luxurious units

Answer 20

B. A zoning change, as it suggests a need for an entirely different property use

Question 21

Which of these factors does not contribute to obsolescence?
A. Misplaced improvements
B. Out-of-date equipment
C. Changes in traffic patterns
D. Worn out carpeting

Answer 21

D. Worn out carpeting is an example of physical deterioration, not an obsolescence.

Question 22

What do the durability, quantity, and quality signify in the context of rental income?

Answer 22

Durability = longevity
Quantity = amount of rent
Quality = assurance of payment

Question 23

The term “highest and best use” can be best defined as:

Answer 23

The use that creates the greatest net return.

Question 24

What is the purpose of a site analysis?

Answer 24

To determine the highest and best use of a property.

Question 25

What is the definition of depreciation?

Answer 25

Loss of property value brought about by age, physical deterioration, or functional or economic obsolescence.

Question 26

What appraisal method generally produces the highest estimate of value versus the lower estimate of value?

Answer 26

Generally, the cost approach produces the highest estimate of value of all the appraisal methods while the income approach generates the lowest estimate of value. Reproduction is a version of the cost approach.

Question 27

When conducting an appraisal, an appraiser considers all the following except:
A. The definition of value
B. The highest and best use of a property
C. The assessed value of a property
D. The legal description of a property

Answer 27

C. The assessed value is the county tax assessor’s determination of value for the purposes of calculating property taxes.

Question 28

What is a broker’s price opinion (BPO)?

Answer 28

An agent’s opinion of a property’s fair market value based on comparable sales only.

Question 29

What is the loan-to-value ratio (LTV)?

Answer 29

The LTV reflects the mortgage balance as a percentage of the mortgaged property’s fair market value (FMV). Lenders will loan against the sales price or the value of the property as determined by an appraisal, whichever is lower.

Question 30

While return on investment is profit, return of investment is:

Answer 30

The recuperation of the investment through depreciation.