Chapter 3: Property Valuation and Financial Analysis

When an appraiser values a property under the cost approach, they add the value of the site to the depreciated cost new of improvements. If the value of a site is $150,000, the cost to build a new house is $300,000, the cost to build a new garage is$75,000, and the value of site improvements such as landscaping and the driveway are $75,000, what is the final value of the property under the cost approach when a 20% physical depreciation factor is applied?

$525,000. The cost approach requires the appraiser to adjust the house and garage costs, known as the "cost new" of constructed improvements, by a depreciation factor. Thus: $300,000 (house) + $75,000 (garage) = $375,000 x 0.2 (20% depreciation) = $75,000. Then subtract the depreciation amount from the cost new. $375,000 (cost new) - $75,000 (accrued depreciation) = $300,000 (depreciated cost new). Finally, add the various amounts: $150,000 (site) + $300,000 (depreciated construction costs) + $75,000 (site improvements) = $525,000

The economic life of a frame dwelling is most nearly:

27 1/2 years.

An appraiser notices an abandoned auto salvage yard on the adjoining lot of a property they are appraising. The appraiser should recommend which of the following?

A toxic waste study.

What contributes to the value of a well planned neighborhood versus a poorly planned neighborhood?

Conformity of size and style.

In using the capitalization process, which of the following cannot be deducted to determine the net income?

Debt service.

Four important elements of value:

Demand Utility Scarcity Transferability

Which of the following appraisal reports is the most detailed?

Narrative report.

Forces that influence value

Physical, Economic, Government, and Social (PEGS).

Which of the following type of rental income would be the highest?

Scheduled gross income.

Gloria is considering an income-producing property to purchase as an investment. In analyzing its suitability for investment, what is Gloria most interested in?

The capitalization (cap) rate. The capitalization rate (cap rate) is the annual rate of return on invested capital experienced by an investment property based on net operating income (NOI) produced by the operations of an income property. The cap rate is of critical importance to income property investors. The cap rate is calculated by dividing the NOI by the property's price.

Randy recently bought a 12-unit apartment building. What is the minimum number of years in which he may depreciate the building for federal income tax purposes?

The depreciation minimum is 27.5 years regardless of the number of units or property usage, as long as it is held as rental property for investment purposes.

Which of the following is least important to an appraiser when appraising a property?

The original cost of the property.

The value of unimproved property is best estimated by which of the following appraisal approaches?

The sales comparison approach.

Obsolescence

a loss in value due to reduced desirability and usefulness of a structure because its design and construction become obsolete. Obsolescence is unrelated to the maintenance of a property. Physical wear and tear and the need for paint are not examples of obsolescence

In appraising a property with two bathrooms, the appraiser used a comparable property with 2 1/2 baths. The appraiser should:

deduct the cost of the half bath from the sale price of the comparable property. Appraisers always adjust the comparable, not the subject property. When a comparable has an extra amenity (such as the 1/2 bath in the question), it needs to be removed by adjusting an estimate of its worth in the market.

John is considering an extensive modernization program for an older apartment building he owns. His decision should give most emphasis to:

effect on the net income. Net income is the key. Increased rents may generate even higher costs.

The principle that housing passes down to lower economic groups would be:

filtering down.

The vacancy rate of an apartment building under normal competitive conditions is primarily the result of:

housing supply and demand in the area.

State licensing of contractors protects the public against:

incompetence.

An important economic factor in real estate is:

its beneficial use.

Which of the following is a cost associated with home ownership:

loss of interest on owner's equity. The owner's equity invested into a property cannot earn interest as it does when deposited in the bank.

The primary concern of an appraiser when analyzing property is:

marketability and acceptability.

Rental income minus operating expenses, debt service and income tax payments equals:

net spendable income.

Which of the following is not an example of functional obsolescence:

proximity of obnoxious nuisances.

Demand has no effect on value unless there is also:

purchasing power which enables the ability to buy the thing in demand. (Demand requires the ability to pay, called purchasing power.)

The final step in the appraisal process is to:

reconcile the different approaches and arrive at a conclusion.

When changes are made in a residence to correct functional obsolescence, this activity is termed:

remodeling.

An appraisal is made as of a given date to indicate:

the market condition at the time the appraisal was completed. An appraisal is an objective opinion of value based on the market conditions at a specific time.

When a comparable sale used in an appraisal was not an arm's length transaction, this affects the:

value of the subject property. An arm's length transaction represents the fair market value of a property uninfluenced by external forces, such as business or familial relations. When a comparable is not arm's length, its sales price may be higher or lower than market and thus will affect the subject accordingly.

To estimate the value of rental property using the gross rent multiplier (GRM) method, an investor first determined that the monthly gross income generated by a property is $7,500. They then applied a GRM of 15. The estimated value of the property is most nearly:

1,350,000 The calculation is $7,500 (rent) x 12 (months) = $90,000 (annual rent); $90,000 (annual rent) x 15 (GRM) = $1,350,000 (value). Note the rent given was monthly, but the multiplier was annual. A helpful tip: a higher GRM (e.g. 150) in a question denotes use of the monthly rent for calculations, while a lower GRM (as in this question) indicates annual rent will be used.

Each unit in a duplex rents for $1,000 per month. With a price of $240,000, the monthly gross multiplier is:

120 $240,000 (value) / $2,000 (rent) = 120. Note the property is a duplex, requiring the given rent amount to be doubled to solve for the gross multiplier.

Rental schedules for apartments are realistically established on what basis?

A market comparison of similar apartments. Apartment rental rates are competitive within a marketplace. Thus, rent schedules for apartments are realistically established under a market comparison of similar properties.

When an appraiser attempts to establish the value of a commercial building, what type of property is least affected by changing economic conditions?

A medical building.

When comparing a small house with a large house of similar quality, which of the following it true?

A small house costs more per square foot. The overall value of the property includes the land it is situated on. Thus, when the house is smaller, the price per square foot will be higher since the cost of the underlying land is divided into fewer square feet.

A residential neighborhood suffers economic obsolescence from which of the following?

Airplanes landing at a nearby local airport. Economic obsolescence occurs off the property. In this question, the existence of airplanes landing at a local airport refers to a neighborhood effect.

Which of the following is an example of economic obsolescence?

An oversupply of like-kind properties.

If homes in an area represent the highest and best use of the land and are similar in architectural design, which of the following principles of appraisal apply

Conformity.

In which appraisal approach to value would the value for the land be calculated separately?

Cost. (In the cost approach, the cost of constructing the property improvements and the cost of the land are handled separately and then combined to arrive at a final value for the complete property.

What type of depreciation is the most challenging to correct?

Economic obsolescence. (Economic obsolescence is the most challenging type of depreciation to correct. Economic obsolescence exists off the property and it is out of the direct control of the property owner. Examples of economic obsolescence include reduced employment opportunities in the area or changed aircraft landing patterns at a local airport. Physical obsolescence and wear and tear are one and the same. Functional obsolescence often requires replacing outdated equipment.)

In the appraisal of a residential property, when is the cost approach most appropriate?

For a new property. New properties are the most appropriate for cost approach appraisals due to the challenge of calculating accrued depreciation on older properties.

Which of the following basic real estate economic principles is the best expression of how the value of real estate is maximized?

Highest and best use.

Which of the following is false regarding the cost method of appraisal?

It produces the lowest value results. Of the three appraisal approaches to determine a property's value, the cost approach will generally produce the highest value and the income approach will generally produce the lowest. The reason for this is that while the cost approach shows the actual expense to replace the property, the income approach demonstrates the value based on the income it generates which is always less.

Which of the following does not describe excess land?

Land that is used to store unused property fixtures.

Which of the following real estate types cannot be depreciated?

Land used to raise crops. Land is not depreciable. Any structure is depreciable so long as it is used for business or investment purposes.

Which of the following appraisal reports provide the greatest degree of detail about a property?

Narrative appraisal report. A narrative report, also known as a self-contained appraisal report, is the most detailed type of property appraisal report. Unlike the other answer selections, a narrative report contains detailed descriptions. The reports listed in answer selections A and C are different names for the same generic report that only summarizes facts, and an appraisal letter reduces the report to a statement.

Which of the following is the best example of functional obsolescence?

No air conditioning in a building located in an arid, desert environment. Functional obsolescence is a loss of value due to adverse factors within the structure which affect the utility of the structure, and thus its value and marketability. Only choice C. no air conditioning in a building located in an arid, desert environment fits this definition. Answer choice D refers to physical deterioration. Answer choices A and B are located off the property and are out of the control of the owner, both being examples of economic obsolescence.

Which of the following does not contribute to obsolescence?

Physical deterioration. Physical deterioration (wear and tear) is not obsolescence. Obsolescence is most often seen as items that are out of style or out of date. In a neighborhood, it is something that reduces value, such as a changed flight pattern.

When the market turns from a seller's market to a buyer's market, which of the following is true?

Prices fall.

The appraisal process which allocates a percentage of a property's total value to the land and a percentage to the improvements is known as:

The appraisal process that allocates a percentage of a property's total value to land and a percentage to the improvements is known as the allocation method. It is the ratio of total value to the site value.

Which of the following is of least interest to an appraiser?

The original cost of the property. (This is a LEAST question. The original cost of a property has no significance in an appraisal to determine its current value.)

Which of these is considered least important when appraising old residences?

The original cost of the residence.

When a seller writes a counteroffer, what happens to the original offer?

The original offer is voided. A counteroffer constitutes an entirely new offer, which rejects and voids the original offer. An offer is either accepted in its entirety or voided by rejection.

A lot 300 feet deep lost 10 percent of its depth. What is the effect of the loss in depth on the value of the lot?

The price per square foot will increase.

The ethics and standards of practice for appraisers are described in:

Uniform Standards of Professional Appraisal Practice (USPAP).

Which of the following will have the least degree of influence on real estate in the future?

Weather.

When is the usefulness of the appraisal cost approach the least appropriate?

When appraising an old structure with many functional deficiencies.

Which of these most nearly refers to a loss in value due to economic obsolescence:

a zoning change. When demand for a property type changes, it can cause a diminished value for existing buildings. Answer selection B. a zoning change is the best answer since it suggests a need for an entirely different property use.

To calculate a capitalization rate (cap rate), the appraiser uses which of the following methods:

a. market comparison. b. band of investment. c. summation. d. Any of the above. (any of these can be applied)

Compared to other appraisal factors, appraisers generally find the __________ the most difficult calculation to measure precisely.

accrued depreciation Accrued depreciation can be a difficult number to calculate since it requires estimating the effective age of the property.

The appraised value of a building is $800,000 but costs $1,200,000 to replace. This difference is an example of:

accrued depreciation. The difference between cost and value is described as depreciation. Accumulated depreciation over time is called accrued depreciation.

Under the market comparison approach, if a comparable property lacks a feature that is present in the subject property, the value that feature will contribute is

added to the sales price of the comparable property.

A(n)____________ is an individual's opinion or estimate of a property's value on a specific date.

appraisal

To determine the accrued depreciation for a property, a buyer's best resource is a(n):

appraiser.

Based on recent comparable sales, an agent's opinion of a property's fair market value (FMV) is referred to as a(n):

broker price opinion (BPO).

The appraisal method used most often to value raw land or sites is the:

comparative method.

For appraisal purposes, "capitalization" is a process used to:

convert future benefits to present net worth. Capitalization is the process to convert future income into a present value. To do this, an appropriate capitalization rate (cap rate) needs to be determined. The cap rate is calculated by dividing the net operating income by the price asked or offered for income property.

When comparable sales are unavailable or inadequate and a property generates no income, an appraiser would likely use the:

cost approach. The cost approach is the best answer selection. As the property does not generate income

The unit of comparison when appraising land is:

cost per square foot cost per front foot cost per acre The unit of comparison when appraising land depends on the size and use of the subject parcel. Other than rural properties, land is generally priced by the square foot. Parcels with a specific frontage, such as a beach, golf course or property for commercial usage, may have the highest and best value based on the front foot comparison.

The first step in the appraisal process is to:

define the problem.

Return on investment (ROI) comes in the form of profit, while return of investment comes in the form of:

depreciation. While the return on investment is profit, the return of investment is the recuperation of the investment through depreciation

The gross rent multiplier (GRM) is determined by:

dividing the sales price by the gross scheduled rent.

When comparing the economic life and the physical life of an improvement:

economic life is shorter.

The time period during which a building produces income that can be attributed to the building itself is known as:

economic life. Economic life is the length of time a property produces an income attributable to the building. Physical life refers to how long the physical building is anticipated to exist. The actual age is the chronological age of the building based on when it was build. The effective age is the age of the property based on its physical condition.

When a residence has a physical age of 20 years, but the appraiser notes the building has the appearance of being only 10 years old, the appraiser is referring to:

effective age.

Functional obsolescence

either out-of-date, inadequate amenities that do not meet market standards, or over improvements for which the market refuses to pay the full cost as an amenity. Functional obsolescence is not a matter of maintenance.

To arrive at a final estimate of value secured under each of the three appraisal approaches, an appraiser:

explains why or why not the other approaches were not used, then chooses the approach the appraiser believes to be the most appropriate.

The price a reasonable, unpressured buyer would pay for a property on the open market as set by an appraisal is known as the:

fair market value (FMV).

Surplus utility is an example of:

functional obsolescence. Surplus utility is an example of functional obsolescence. Functional obsolescence is created by items on the property that are either outdated or over-improved.

An appraiser uses a site analysis to determine the:

highest and best use of a property. (The purpose of a site analysis is to determine the highest and best use of a property.)

The method of appraisal which emphasizes the present worth of future benefits to be received by the owner is the:

income approach. The income approach measures the current worth of future benefits - rental income.

Substitution applies to

income, structural design and use. Nostalgic significance is unique to a property or individual and is not considered in the principle of substitution.

If the eventual highest and best use of a parcel of real estate cannot be realized for a period of time, the current use is referred to as the:

interim use. When the highest and best use of a property will not be available for a period of time, the current use of a property is referred to as its interim use. For help remembering this naming convention, think of an intermission between two acts in the life of the property.

The land residual method of appraisal is used to determine the value of the:

land alone. The word "residual" refers to that which is left after subtracting other values. In a land residual appraisal, the cost of the building is subtracted from the property value to determine the value of the raw land.

The most common appraisal approach used by an appraiser in the appraisal of a single family residence (SFR) is:

market comparison.

The cost of a capital improvement and its effect on market value are:

rarely the same. The cost of an improvement and its effect on value are rarely the same. The contribution of the improvement is usually less than the cost. An appraiser is most often concerned with the added value -contribution - of the improvement.

The appraisal method most commonly used to value land or sites is the:

sales comparison approach.

The gross rent multiplier (GRM) is calculated by dividing the:

sales price by the gross monthly income.

Compared to a property's physical life, economic life is generally:

shorter. Note that economic life represents the length of time a building produces a reasonable return. Alternatively, physical life is based on how long the building would remain physically standing. Thus, a property's economic life is the shorter of the two.

Marta's city built a new park in her neighborhood. This may result in a(n):

special assessment.

When two properties are perceived as comparable, buyers tend to concentrate on price. This principle is called:

substitution. The principle of substitution states that the value of a property is equal in amount to the amount that would be paid to buy an equivalent property available in the open market. Alternatively, the principle of contribution holds that an improvement to a property is only worth what it adds to the value, not what it costs. The principle of anticipation holds that a perceived change in the future will have an effect on the present worth of the property. The principle of balance refers to the ratio of land and improvement value that will maximize the overall value of the property.

An analysis of rental income does not determine the income's:

suitability for reinvestment. (You are correct. As applied to rental income, durability = longevity; quantity = amount of rent; quality = assurance of payment.)

The appraisal process which allocates a percentage of a property's total value to the land and a percentage to the improvements is known as:

the allocation method. It is the ratio of total value to the site value.

When conducting an appraisal, an appraiser considers all the following except:

the assessed value of a property. The assessed value is the county tax assessor's determination of value for the purposes of calculating property taxes.

When using the replacement cost method of appraisal, the appraiser calculates all of the following, except:

the capitalization rate (cap rate).

When using the market comparison approach to appraise a single family residence (SFR), property comparisons are based on:

the entire property.

In using the market comparison approach in appraising a single family residence (SFR), comparisons should be made based on:

the entire property. Comparisons need to consider all elements of a property and its neighborhood.

The first thing an appraiser does when appraising vacant land is determine:

the highest and best use of the land. (The first thing an appraiser does when appraising vacant land is determine the highest and best use of the subject property. This determination is needed before the appraiser can determine what properties are comparable.)

The calendar date that is of most concern to an appraiser is the date:

the purchase contract was signed. (The date that is most critical to an appraiser is the date the contract was signed since the fair market value (FMV) for a property is established as the purchase price agreed to by the buyer and seller.)

The capitalization method of the income approach determines:

the value of a property based on its net operating income (NOI). The capitalization method uses an income-producing property's net operating income (NOI). The gross rent multiplier (GRM) method uses the gross rent generated by an income producing property.

A property is valued at $300,000 with a 5% capitalization rate (cap rate). If the prospective buyer wants an 8% return on their money, the property's valued would be:

the value will move in the opposite direction as the capitalization rate (cap rate). $300,000 x .05 = $15,000 (net income) $15,000 ÷ .08 = $187,500