Real Estate Appraisal
Appraisal - The first thing we have to look at is the definition of appraisal. The basic definition of the word appraisal is an estimate of value or an opinion of value of real property. The important aspect of this definition is that it is not an exact statement. Different appraisers will come in with different appraisal figures. The accuracy depends upon the skill of a licensed appraiser.
An Appraisal - A written report issued by a licensed appraiser. This written report is required to show the following:
Appraisal Market Value & Sales Price
Market Value - The highest price that a willing buyer would pay for a property and the lowest price that a willing seller would accept in a free market place. The reason for this is the contractual offer and acceptance requirement in contract law. The buyer has to make an offer to start the ball rolling. Next the seller has to accept the offer, reject the offer, or make a counter offer. So this is why we say the highest value a buyer will offer and the lowest the seller will accept.
Selling Price - The selling price takes into consideration the non-economic factors that affect the actual selling price. The selling price may be more or less than market value. Non-economic factors might be the buyer loves the kitchen and deck and is willing to pay more to get it. A non-economic factor for the seller might be that they want to move to Dallas as soon as possible and are willing to accept a lower than normal offer.
Ground Value - When appraising property, a good appraiser will separate the value of the land vs. the appurtenances such as the house, fence, etc. Land can vary considerably in value.
Reconciliation - An appraiser will take the various values and formulas and utilize all of them to come up with a fair value of property.
Elements of the Appraisal
There are elements that help determine the market value of property. There are basic factors in real estate that can influence the market value of real estate in given areas at a given time.
Scarcity = Supply and Demand - When there are more buyers than property for sale, there is a scarcity for the demand. This allows sellers to up the offering price of their home.
Present vs. Future - Includes present use and future enjoyment. One of the considerations is zoning for a given area. If a buyer wants a home and the area is zoned for apartments, they might not like their future high rise neighbors.
Right to Rights - Buyers would surely be interested in any encumbrances on their future rights. Community encumbrances preventing them from enjoying as they wish. Their ability to transfer rights in the future, type of estate, type of tenancy, restriction, etc. The buyer would want to know, "How many sticks are removed from the Bundle of Rights?"
Sellers Disclosure Form - Don't Forget, the seller must disclose bus stops, encumbrances, community restrictions, zoning, etc. etc. to the buyer on the seller's disclosure form. A good licensee for the buyer, the buyer's agent, should protect the interests of their buyer.
Topography - The contour of the land affects value. A completely flat parcel will allow the buyer to utilize the entire parcel. If the lot is on a hill, the slope would prevent total use of the parcel.
View - One of the main influencing physical factors is view. Most people would enjoy a view other than their neighbor's home. Good views in urban areas influence the market value of property tremendously.
Type of Soil - Examples of problems with soil could include land that is too rocky for gardening; possible bad drainage characteristics for a septic tank; sandy loam or clay on the hill in back of a home that could cause mudslides.
Exposure of Home- Improvements and how the buyer's react impact the market value; also the direction the home faces.
Residential - Buyers prefer a south or west front exposure because of the desired sunlight in the winter.
Commercial - Business buyers prefer a corner lot in that they would get more "traffic" and more "signage." More people would see their business signs as they drove by from either street. Since the driving characteristic is being on the right side of the street, the most preferred corner lot would be the SW corner. This intersection is called the "100% Location." All drivers would see signage.
Plottage Increment - Putting several parcels of land together increases the value over all. The value of one larger parcel has a higher value per acre than the value of several small parcels per acre. This is true in residential housing as well as commercial property. One of the main factors of this characteristic is the scarcity factor as well.
Earned Increment - When an owner increases their property in value by their effort it is known as an earned increment. The "earned" increase in value because it was due to their efforts. Other examples of earned increments would be making improvements to the property, making an addition to the property, etc.
Appreciation - When property increases in value over time and it is beyond the outside of the owner's effort it is called appreciation. Because of the fact that it was not due to the owner's efforts it is always known as an "unearned" increment. The appreciation might be as a result of directional growth, increase in demand, inflation, etc. Normally this is the largest source of increase in value of owned real estate.
Physical Deterioration - The amount of loss in value due to wear and tear of the property. The deterioration could be appearance, which normally means it is lack of maintenance. It could be structural which means it is simply a victim of time.
Curable or Incurable - Physical deterioration that is "curable" would mean that the economics of repair would be less costly than building a whole new structure. "Incurable" deterioration means that the economics of building a new structure is less costly than repair of the current structure.
Bad Decisions - Unfortunately a fair amount of decisions regarding a structure being curable have cost developers a lot of extra money. It would have been less costly to build a new structure.
Functional Obsolescence - With old commercial structures there are a lot of problems with the function of building. It is out-of-date in regard to use.
Anticipation - This is value as determined by the anticipation of the use by the new owner; the utility of the property. This will take into consideration the enjoyment of the property by the new owner. It also would take into consideration the profitability of owning the property if it is an investment such as rental property.
Balance - This aspect looks at the use of the property and if all the aspects of use are in balance. The land, labor, invested capital, and the time management of the property must be in balance. If one of the factors were out-of-balance, this would decrease the value of the property.
Imbalance - The property being appraised is over- improvement or under- improvement.
Change - The area surrounding property is not static. If the properties in the surrounding community are being developed, the value of the property in question will rise as well. If there is no change (static) the area will eventually decay and possibly turn into a slum.
Conformity - Use and style should conform to neighboring structures. When neighborhoods conform to a community identity, the values of property are increased.
Mixing - When a community allows the mixing of values or uses it tends to devalue property.
Contribution of Items (senses) - Value consists of external factors to the subject property. These are areas that are not part of the property, but can detract value from it.
Highest and Best Use - The use of the land that will return the greatest net profit. Net profit is the increase in value minus the amount of money spent to increase value.
Use Must be Legal and Possible - This means that the best use of the property must be zoned properly. If the best use is an apartment and it is zoned single-family units, the apartment would be illegal.
Earning Power Represents it's Value - For income property, the income after all expenses are paid represents the net income or residual income. The formula is gross income less expenses = net (residual) income. If one property has a net income of $10,000 and another has $40,000, obviously the latter would be of greater value.
Tax Write-Offs - Old improvements rarely represent the Highest and Best Use. This is why you see so many old buildings being demolished and a new one built on the same property. There are instances where property is purchased and it just sits. The reason is that the buyer is taking tax write-offs first. They will charge a loss in value to the buildings due to economic depreciation whether it is physical, functional, and economic. The depreciation is to the buildings not to the land. Land is not depreciated as an economic loss.
Economic Rent - The income from the Highest and Best Use is called "Economic Rent." This is what the highest possible rent would be for the proper use of the land.
Contract Rent - The income from its present use is called the "Contract Rent." This is often less than the rent from the Highest and Best Use would be; the economic rent.
The following factors are governmental and community regulations that affect the value of property in their area.
Zoning - The control of the use of property by governments is done through zoning. Interestingly, there is no present influence on property that is up-for-sale, but there is a future impact regarding the use that could be changed which offers an anticipation value to property. Any new zoning would allow a higher and better use of the property.
Building Codes - When building codes are more stringent requiring better building materials and more labor the newly built or renovated home will increase in value compared to other homes without such requirements.
Governmental Housing Programs - The construction of Federally sponsored low income housing within a community will usually drive down the value of property in that area. It decreases the value of privately owned and privately financed housing. Also the increase in the supply of housing in an area may decrease the demand for houses under the principles of supply and demand.
An appraiser has to place value of property based on social factors within an area as well. The following areas are not weighted heavily towards the appraised value of property, but they do make a difference.
Growth Patterns - Is the growth towards the property in question? If so, the future value will usually rise. Is the movement of population away from the property? Then the value will decrease over time.
Desire for Suburban Life - Some areas of the country have the population desiring to move out of the city such as Los Angeles. Other areas have the population desiring to move into the city such as Seattle. Demand for housing can be low or high affecting future pricing.
Changes in Family Composition - The size of families is diminishing which causes less of a demand for large homes. There are a lot of single parent families in today's world. Also, married couples aren't having the large number of children that used to be the norm. The large 4 and 5 bedroom homes of the past are white elephants in today's market.
Value Associated with "Status Neighborhoods" - Demand for living in a specific neighborhood is known as "status neighborhood". A house in one neighborhood might be worth $150,000. The same exact house might be worth $250,000 in another neighborhood. This again gets back to demand, but it applies to the demand of living in a specific area. This demand might be due to status, being in a specific school district, enjoying community services, etc.
Value Affected by "Amenities" - An amenity is a value of attractive, desirable features of a given piece of real estate. Social and regional mores regarding real estate have their affect on value. Some people desire the "closeness" of convenience to stores or shopping. Some desire to be close to their church. Others desire to be close to mass transit. Amenities to a specific piece of property would include the beauty of landscaping, having a view, the arrangement of floor plan, etc.
Location - Location is the most important creator of value. It is often times said that the most important aspect in determining the value of real estate is location, location, and location. The reason is that the location of real estate affects the physical characteristics, economic factors, political factors and the social factors involved with determining value. If you stop to think about it, all the value influences that we have just discussed are affected by the location of the property.
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