Chapter 7

Question 1

Appraisal

Answer 1

Formal, unbiased estimate of value by a licensed appraiser

Question 2

What are the three reasons that appraisals are necessary in RE?

Answer 2

1. Limited transactions to compare to
2. Properties are heterogeneous (type & location)
3. Errors are COSTLY

Question 3

At the beginning of a RE transaction, who provides the estimation of value?

Answer 3

Real Estate brokers are used at the onset! They give an OPINION, but NOT an appraisal (they aren’t licensed)

Question 4

Why would a buyer/seller use a broker to value a house at the onset?

Answer 4

Appraiser costs MONEY & takes TIME.

Question 5

Jeremy and New Orleans seller agree on a price and an appraiser values the property lower than agreed price. What does he have the option to do?

Answer 5

1. Walk away from deal
2. Renegotiate
3. Move forward with contract price. If I take out a loan, terms will be based on appraisal, not contract.

Question 6

If I make an offer that’s lower than the appraisal estimate, what do I have to do?

Answer 6

NOTHING! You do not have to disclose this appraisal price to the seller at all!

Question 7

Market value (RE property val.)

Answer 7

AKA appraised value. Probable selling price assuming normal sales conditions. It’s an OBJECTIVE value between imaginary participants.

Question 8

Investment value (RE property val.)

Answer 8

Value to a particular investor. SUBJECTIVE.

Question 9

Transaction price (RE property val.)

Answer 9

Price actually paid. Used to estimate current market value and investment value.

Question 10

Which valuation method is used to estimate the other two methods?

Answer 10

Transaction used to measure market & investment value.

Question 11

Property is appraised using its ______ ___ _____ use

Answer 11

Its highest and best use

Question 12

What are the limitations of highest and best use?

Answer 12

1. Legally permissible. Ex. Corn field zoned for agriculture. Valued w/ expectation that it can be rezoned for mall!
2. Physically possible
3. Financially feasible. Ex. If we can rezone for mall for $1B, is that feasible for a property that may only bring in $1M/year?
4. Most PROFITABLE. This relates to first three.

Question 13

If a property’s highest and best use differs from its existing use, what cost must we include?

Answer 13

Cost to demolish (raze it). Ex. Curtis’s parents’ house in Greeley. It’s on a lot that could be used much better.

Question 14

What are the three property value estimation approaches?

Answer 14

1. Sales comparison approach
2. Cost approach
3. Income approach
   Can combine and weigh three approaches!

Question 15

Sales comparison approach

Answer 15

Look at recent sales price of similar properties (comps)

Question 16

The best comps are similar in which three factors?

Answer 16

1. Type
2. Location
3. Time

Question 17

What data sources are available for selecting good comps?

Answer 17

1. MLS (owned by National Association of Realtors)

2. Public records. MUCH fewer data points than MLS.

Question 18

Are foreclosures used as good comps?

Answer 18

No, because these prices aren’t reflective of the surrounding housing market!

Question 19

Which form of prop. value estimation is used heavily in residential?

Answer 19

Sales comparison because there are a LOT of good comps.

Question 20

Is it better to have a lot of moderate sales comps or a few really good ones?

Answer 20

A few really good ones! Choose comps that would be considered a COMPETITOR to the subject property. Ex. Buying Camry. Check price of Accord!

Question 21

If comps differ from subject property, what must be done to make them more accurate?

Answer 21

Make ADJUSTMENTS! Ex. If the subject property doesn’t have a fireplace but the comp does, I need to subtract the value of adding the fireplace to comp.

Question 22

Cost approach

Answer 22

Uses the cost to construct the property from scratch. Used primarily for unique, non-income properties. Ex. Historical buildings, Old Main.

Question 23

_____ __ ________ and ________ _______ are not necessarily the same, but they will always be pressured towards each other.

Answer 23

“Cost to construct” and “market value”

Question 24

What will happen if cost to build house > market value?

Answer 24

Builders will stop building –> supply drops –> market value rises. EQUILIBRIUM!

Question 25

What is the formula for the cost approach?

Answer 25

Est. cost of building improvements
- est. accrued depreciation
= Dep. cost of building improvements
\+ est. value of improved land
= [VALUE]

Question 26

What factors are considered when calculating est. accrued depreciation?

Answer 26

Physical deterioration (worn out)
Functional obsolescence (outdated design)
External obsolescence (location)

Ex. Curtis’s parent’s house. Func. obs. is a lot because house was designed in 70s.

Question 27

How are estimated cost of building improvements calculated? (COST approach)

Answer 27

• Based on type of construction & quantities of materials.
• Replacement cost. What would it take to build something of equivalent function & quality?
• Reproduction cost. Physical replica. MORE EXPENSIVE. Ex. Historic building with a lot of customization.

Question 28

How is land value estimated? (COST approach)

Answer 28

Must use comps! Recent, nearby sales of vacant improved land of the same type.

Question 29

Automated Valuation Methods (AVMs)

Answer 29

Services that use recent, nearby sales of similar properties to estimate value. Basically sales comp. approach. INACCURATE! Ex. Zillow

Question 30

Why are AVMs like Zillow unreliable?

Answer 30

1. Can only see publicly available data points. Can’t see the details (ex. view from subj. prop.)
2. Can’t see improvements made to the house (ex. backyard revamp at my house).