real estate principles and practices chapter 17 the appraisal process © 2014 oncourse learning
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Real EstateReal Estate Principles and Practices Principles and Practices
Chapter 17Chapter 17
The Appraisal ProcessThe Appraisal Process
© 2014 OnCourse Learning
© 2014 OnCourse Learning
Key TermsKey Terms
Ad valorem tax
Appraisal
Appraisal report
Capitalization rate
Cost approach
Depreciation
Economic obsolescence
FIRREA
Functional obsolescence
Gross income multiplier (GIM)
Gross rent multiplier (GRM)
Highest and best use
Income approach
Market price
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Key TermsKey Terms
Market value
Physical depreciation
Plottage
Progression
Quantity survey method
Regression
Replacement cost
Reproduction cost
Sales comparison approach
Tax assessment
USPAP
Unit-in-place cost approach method
Value
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OverviewOverview
Purpose of appraisals
Steps in the appraisal process
Reporting of value
Title XI of the Financial Institutions Reform, Recovery and Enforcement Act 1989
New regulations
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AppraisalAppraisal
Opinion of worth of a parcel of property
Appraisal process
1. Define the problem
2. Collect the data
Economic
Neighborhood
Property
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AppraisalAppraisal
3. Apply the 3 approachesSales comparison
Cost
Income
4. Correlate data and analyze results
5. Prepare the report
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The Purpose of an Appraisal: The Purpose of an Appraisal: Defining ValueDefining Value
Value: Value: present worth of future benefit
1. 1. Market value: Market value: most probable selling price for property:
No abnormal pressure
Exposed to the open market for a reasonable time
Buyer is knowledgeable
Market Price: Market Price: aactual sales price
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The Purpose of an Appraisal: The Purpose of an Appraisal: Defining ValueDefining Value
3. Insurance value: 3. Insurance value: coverage to replace the structure
4. Estate tax value4. Estate tax value: value of the deceased’s estate
5. Lease interest: 5. Lease interest: long term lease with reappraisal clause to determine leasehold value
2. Loan value2. Loan value: greatest reason for appraisals
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The Purpose of an Appraisal: The Purpose of an Appraisal: Defining ValueDefining Value
Assessed value X mill levy
1 Mill = 1/10 of 1 cent1 Mill = 1/10 of 1 cent
6. Tax assessment:6. Tax assessment: establishes ad valoremad valorem taxtax value
$270,000$270,000 Appraised valueAppraised value.30.30 Percentage taxedPercentage taxed
$ 81,000$ 81,000 Assessed valueAssessed value.070.070 Mill levyMill levy
$ 5,670$ 5,670 Annual taxesAnnual taxes
$2.00 per $100 = $270,000 X $2.00 = $5,400$2.00 per $100 = $270,000 X $2.00 = $5,400
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The Purpose of an Appraisal: The Purpose of an Appraisal: Defining ValueDefining Value
8. Financial statement: 8. Financial statement: net equity
9. Third Party Companies:9. Third Party Companies: transferred employees
10. Liquidation: 10. Liquidation: forced sale
11. Divorce Cases: 11. Divorce Cases: distribution of assets
7. Eminent domain:7. Eminent domain: fair market valuePartial taking: before and after methodbefore and after method
Just compensationJust compensation
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Forces Affecting ValueForces Affecting Value
Governmental (political) actions
Economic (financial) forces
Physical or environmental forces
Sociological forces
Modify, create, or destroy value
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Forces Affecting ValueForces Affecting Value
Property taxes and services
Laws and regulations
Federal control
Policies affect inflation and interest rates
Regional and local government
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Forces Affecting ValueForces Affecting Value
Inflation: values increase
Recession: values decrease
Regional and local economic conditions
More spendable money = prosperity
Future economic predictions
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Forces Affecting ValueForces Affecting Value
Elements outside the subject property
Topography
Climate
Location within the community
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Forces Affecting ValueForces Affecting Value
Population trends
Attitudes of people in the community
Cultural amenities
Value is created by: DesireDesire
UtilityUtility
ScarcityScarcity
Effective Purchasing PowerEffective Purchasing Power
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Collecting the DataCollecting the Data
General dataRegion, city, and neighborhood
Property
Site
Square footage of house
Condition and extra features
Special assessments
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Approaches to ValueApproaches to Value
Compares Compares subject property subject property to recently sold to recently sold similar propertiessimilar properties
Cost to rebuild plus landCost to rebuild plus land
Converts future income Converts future income to present valueto present value
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Sales Comparison ApproachSales Comparison Approach
Market data approach: subject is compared to recently sold property
Minimum of 3 comparables
Adjustments made for differences
If no sales in the area – expand the search area
Time adjustments
Most common approach for residential property
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Sales Comparison ApproachSales Comparison Approach
MarketMarket
AgeAge
LocationLocation
Lot sizeLot size
Quality of constructionQuality of construction
Porches, decks, and Porches, decks, and patiospatios
General conditionGeneral condition
Living areaLiving area
Number of bedroomsNumber of bedrooms
BathsBaths
BasementsBasements
GaragesGarages
Air conditioning andAir conditioning and heating systemsheating systems
Fireplaces Fireplaces
ExtrasExtras
AdjustmentsAdjustments
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Cost ApproachCost Approach
1. 1. Square foot method: cost per sq ft of building a similar structure X # of sq ft.
AKA: Replacement Cost or Summation ApproachAKA: Replacement Cost or Summation Approach
$90,000 to build 1500 sq ft $90,000 to build 1500 sq ft
$90,000 ÷ 1500 = $60 per sq ft$90,000 ÷ 1500 = $60 per sq ft
Cost to build X # of square feetCost to build X # of square feet
1500 sq ft X $60 = $90,0001500 sq ft X $60 = $90,000
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Cost ApproachCost Approach
2. 2. Cubic foot method: considers volume
3. Unit in place cost approach 3. Unit in place cost approach method: method: cost of component parts
4. Quantity survey method: 4. Quantity survey method: detailed breakdown including cost of all material plus labor and profit
AKA: Replacement Cost or Summation ApproachAKA: Replacement Cost or Summation Approach
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Cost ApproachCost Approach
Replacement cost: Replacement cost: similar design and style using current costs and materials
Reproduction cost: Reproduction cost: cost of constructing an exact duplicate
AKA: Replacement Cost or Summation ApproachAKA: Replacement Cost or Summation Approach
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Cost ApproachCost Approach
Steps in cost approachSteps in cost approach1. Estimate site value as vacant
2. Estimate cost to replace improvement
3. Deduct depreciation
4. Subtract depreciation from replacement cost
5. Add land value
AKA: Replacement Cost or Summation ApproachAKA: Replacement Cost or Summation Approach
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Income ApproachIncome Approach
Income Approach: Income Approach: value determined by future net income net income
Gross rent multiplier (GRM) (GMRM): Gross rent multiplier (GRM) (GMRM): 1 – 4 family residential properties
Gross income multiplier (GIM): Gross income multiplier (GIM): ccommercial or industrial properties
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Income ApproachIncome Approach
Comps sales price ÷ gross monthly income
1. Comps: recently sold rented properties
2. Sales price ÷ gross monthly income = GRM
Gross Rent MultiplierGross Rent Multiplier
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Income ApproachIncome Approach
CompsComps DateDate PricePrice IncomeIncome GRMGRM
11 12-0712-07 $168,000$168,000 $900$900 210.00210.00
22 1-081-08 171,000171,000 850850 201.18201.18
33 2-082-08 173,500173,500 900900 192.78192.78
44 3-083-08 174,750174,750 950950 183.95183.95
SubjectSubject TodayToday ?? 900900 ??
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Income ApproachIncome Approach
3. Greatest consideration to most similar comps
4. Multiply subject’s gross rent by the GRM
Gross Rent MultiplierGross Rent Multiplier
$ 900.00$ 900.00 gross rentgross rent
X 190.00X 190.00 GRMGRM
$171,000$171,000 Subject’s Subject’s valuevalue
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Income ApproachIncome Approach
Net income is used to determine present value
1. Estimate PPotential GGross IIncome (PGI)
EEffective GGross Income (EGI): PGI minus vacancy and rent loss
2. EGI minus operating costs = NNet OOperating IIncome (NOI)
Income-Producing PropertiesIncome-Producing Properties
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Income ApproachIncome Approach
3. Capitalization rate: Net income of comp ÷ sales price of comp
4. Apply formula: NOI ÷ cap rate = value
Capitalizing: Capitalizing: converts future income to present value
Income-Producing PropertiesIncome-Producing Properties
Capitalization rate:Capitalization rate: return of and on capital invested
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Income ApproachIncome Approach
Income-Producing PropertiesIncome-Producing Properties
IncomeIncome
RateRate= Value= Value
$15,000$15,000
10%10%= $150,000= $150,000
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Income ApproachIncome Approach
Analyze rental history: quality & durability 1. Contract rent high and short duration?
2. Long-term, below market rent leases?
3. Responsibly managed and maintained?
4. Past rental history?
5. If a regional shopping mall:
Income-Producing PropertiesIncome-Producing Properties
National chain? Surrounding market? Household income?
6. Location?
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The Appraisal ReportThe Appraisal Report
Appraisal report: Appraisal report: Oral, letter, form, narrative
Minimum requirements:Identification of property
Purpose
Date of valuation
Data used
Limiting conditions / assumptions
Indication of value
Appraiser’s certification
Appraiser’s signature
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The Appraisal ReportThe Appraisal Report
Oral report: used when time is of the essence
Letter report: letter form without pertinent information or data analysis
Form report: check boxes and comments sections
Required by Fannie Mae and Freddie Mac
Narrative report: includes verification and substantiation of the value opinion
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The Appraisal ReportThe Appraisal Report
1. title page
2. letter of transmittal
3. table of contents
4. summary of the facts
5. objectives of the report
6. identification of the property
7. definition of value
8. property rights appraised
9. city data
10. neighborhood data
Outline of Narrative ReportOutline of Narrative Report
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The Appraisal ReportThe Appraisal Report
11. taxes, zoning, and utilities
12. site description and value
13. building description & land improvements
14. analysis & interpretation
15. approaches to value used
16. reconciliation
17. certification
18. conclusion of value
19. limiting conditions & contingencies
20. appraiser’s qualification
Outline of Narrative ReportOutline of Narrative Report
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The Professional AppraiserThe Professional Appraiser
Most specialized division of real estate business
Disinterested 3rd party who follows an orderly process in determining property value
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The Uniform Standards of The Uniform Standards of Professional Appraisal Practice Professional Appraisal Practice
1. 2,000 hours experience
2. 60 hours education
3. 15 hours USPAP
4. Pass examination
Requirements for State Requirements for State CertificationCertification
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The Uniform Standards of The Uniform Standards of Professional Appraisal Practice Professional Appraisal Practice
1. appraise federally related commercial transactions in excess of $250,000
2. appraise residential properties in excess of $1 million
3. appraise complex residential properties in excess of $250,000
4. appraise residential properties in excess of 4 units
5. must pass examination
State Certification required to:State Certification required to:
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The Uniform Standards of The Uniform Standards of Professional Appraisal Practice Professional Appraisal Practice
1. 1,000 hours of residential experience + 1,000 hours of commercial education
2. 150 hours course work
3. 15 hours USPAP
4. pass an examination
General Certification General Certification Requirements:Requirements: