2. Property valuation (or appraisal)
of your real estate assets is a key
aspect of property investment.
Itâs important in the purchase
and resale of a property, but also
for insurance and financing purposes for the time
you own the property. Understanding the valuation
process allows you to assess and place an
appropriate value on your property.
3. Cost Approach:
This is based on the concept of objective value
(also known as âthe cost to createâ). Cost
approach is particularly useful when the subject
property has been extensively renovated or
newly constructed. The main stages of the cost
approach to value are:
4. ⢠Estimation of the value of the site and its
reproduction cost, sometimes mistakenly
called âreplacement valueâ. In some cases,
replacement value is the only accurate figure
you can use, along with an estimate of the
accrued depreciation associated with
structures on the property.
5. ⢠Adjustment of the propertyâs value is
determined by subtracting
the estimate of accrued
depreciation from the
estimate of the
reproduction cost
(or replacement value, when applicable).
6. ⢠Market value estimate is calculated by taking
the adjustment figure
from the step above and
adding the estimate of
the value of the site.
7. Sales Comparison Approach:
The sales comparison approach is
perhaps the most common
method of determining the value of
real property. The estimation of the
property value is based on recent
sales data for direct comparables sold in the area in
the past six to 12 months. Real estate agents often use
this approach in larger markets where there are a
number of similar properties, as this valuation method
accurately represents the market value of the
property.
8. Income Approach:
This is commonly used to determine the value of
an income-producing property where there is a
relationship between the
income a property is capable
of producing and the value
of the property. The main steps
in calculating the value of a
property using the income
approach are:
9. Estimation of potential annual gross income.
Using a motel as an example,
the potential annual gross
income is the dollar value that
could be realized if every room
was fully rented at the highest
rate every night for the entire year. A vacancy
and bad-debt allowance, based on current
market conditions, is subtracted from this figure,
which becomes the effective gross income.
10. ⢠Estimation of annual operating expenses. This is
a figure that is often determined by calculating
the operating expenses applicable to the majority
of similar property types in the same
marketplace. This
includes industry-
standard expenses,
such as telephone,
Internet and cable
services, as well as fees for
regular utility and seasonal
maintenance. The annual
operating expenses are deducted from the
effective gross income to provide an estimate of
net operating income.
11. ⢠Capitalization rates are determined when the
valuator converts the income of a property
into an estimation of the future cash flow
compared to the return on the initial
investment. These ratios are usually expressed
as a percentage of the expected return on
your initial investment.
