What's My Property Worth?

There are three basic methods of appraisal. Depending of the type of property, the data available, and the analysis of the data, each method reflects a slightly different valuation. A combination of two or all three methods will yield a more accurate estimate.

The Income Approach

Also called the economic or capitalization approach, the income approach appraises property from the viewpoint of the investor. It determines how much someone will pay for a property in order to receive the income that property is capable of producing. The income approach analyzes the estimated gross annual income to be derived from the property. An estimate of the anticipated vacancy is deducted (usually five percent); the result is the effective gross income. From the effective gross income a compilation of all the allowable expenses is deducted; the result is the net income. Net income is then capitalized by a process that translates the net income stream into a present value for the property. This process requires the selection of an interest rate for the land and building, and a recapture rate for the building. The resulting rate is called the capitalization rate.

The Five Basic Steps

1) Estimate gross annual income

2) Estimate a vacancy rate, which is subtracted from the gross annual income to get the effective gross annual income.

3) Estimate the anticipated expenses and subtract them from the effective gross annual income to get the annual net income.

4) Select an interest rate for land and building and a recapture rate for building yielding the capitalization rate.

5) Translate the net income stream to an estimate of value using this formula:

The Cost Approach

Also called the replacement cost approach, summation approach, or physical approach, the cost approach appraises property from the viewpoint of a builder or contractor. The expenses of building a structure at today's costs are computed, the estimated accumulated depreciation is subtracted from the cost of the structure, and then an estimate of the land value is added to that subtotal. The result is a figure indicating the value of the property based on the cost approach.

The Five Basic Steps

1) Estimate the expense of building the structure at today's costs.

2) Estimate the amount of accrued depreciation from all causes: physical, functional, and economic.

3) Subtract the accrued depreciation from the cost of building the structure.

4) Estimate the land value (as though the land were vacant)

5) Add the cost (new, less depreciation) to the estimate of land to determine the total valuation of the property.

The Sales Comparison Approach

Also called the Market Data approach or the Sales Analysis approach, the Sales Comparison approach appraises property from the view point of a potential buyer-user. Recent sales in the same or a comparable area, and of size and quality similar to the subject property, are compiled and analyzed. This is generally the most reliable method because it requires fewer variables that depend on individual judgments.

The Two Basic Steps

1) Gather information on comparable sales.

2) Analyze and compare these sales with the subject property.