valuation

1. Real Property Valuation
The Nature of Value
Foundations of Appraisal
Wayne Foss, MBA, MAI, CRE
Foss Consulting Group
Email: wfoss@fossconsult.com

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Land is Unique
 In Location and it’s Composition
 Physically Immobile
 Durable
 Supply is finite
 Useful to People

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Concepts
 Governmental and Legal
– the focus of law is on ownership rights
 Legal Definition
– Land… includes not only the ground, or soil, but everything that
is attached to the earth, whether by course of nature, as are trees
and herbage, or by the hand of man, as are houses and other
buildings. It includes not only the surface of the earth but
everything under it and over it. Thus in legal theory, the surface
of the earth is just part of an inverted pyramid having its tip, or
apex at the center of the earth, extending outward through the
surface of the earth at the boundary lines of the tract, and
continuing upward to the heavens.

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Concepts, con’t...
 Geographic
– Diverse physical characteristics
– May be used for many purposes
– Use influenced by geographic considerations
 Legal
– Individuals hold private rights to own and use land
– public rights to shared use
– Land: “The earth’s surface, both land and water, and anything
that is attached to it whether by the course of nature of human
hands.”
• Subsurface rights
• Surface rights
• Suprasurface rights

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Concepts, con’t...
 Social
– resource that all individuals share
– marketable commodity
– Conflicts between groups with different views on
land use
– Environmental and Historic preservation concerns

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Concepts con’t...
 Economic
– Major source of wealth
– Can be used for multiple purposes
 Restrictions
– Public right to use of the nation’s airspace
 Highest and Best Use
– Physical Characteristics
– Locational Characteristics

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Definitions
 Real Estate
– Physical Land and Appurtenances affixed to the land (e.g.,
structures)
 Real Property
– all interests, benefits and rights inherent in the ownership
of real estate
– bundle of rights
 Personal Property
– Moveable items not permanently affixed to, or part of, the
real estate

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Real Estate, Personal Property and Real Property
1. Schaefer owns land with a
grove of trees that are prized
for their wood. The trees
would be classified as:
2. Schaefer cuts down several of
the trees and stacks the wood
on this land.
3. Schaefer sends the wood to a
woodworker to be made into
cabinets. The finished cabinets
are delivered and placed in
Schaefer’s house.
Real Estate
Personal Property
Personal Property

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Real Estate, Personal Property and Real Property
4. Schaefer secures the cabinets
to a wall in the family room of
the house.
5. Years later Schaefer remodels
the home and removes the
cabinets and places them in the
attached garage.
6. Schaefer’s marriage falls apart,
and a judge orders that
Schaefer’s spouse receive one-
half the wholesale timber value
of the tree grove. The interest
in the tree grove represents
Real Estate
Personal Property
Real Property

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Types of Real Property
 Fee Simple Estate
– all interests, benefits, and rights inherent in the ownership
 Leased Fee Estate
– an ownership interest held by a landlord
 Leasehold Estate
– an ownership interest held by the lessee
 Life Estate
– Total rights of use, occupancy and control limited to the
lifetime of a designated party.
 Easement
– A conveyance of use, but not ownership

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Types of Real Property, con’t...
 Partial Interest
– divided or undivided rights in real estate that represent less
than the whole
 Specialized fractional ownership
– Condominium
– Cooperative
– Timesharing
 Vertical Interest
– Subsurface and air rights

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Limitations on Ownership
 Public: Four Powers of Government that restrict private ownership
– Police Power
• the right of government under which property is regulated to
protect public safety (e.g. zoning, building codes)
– Escheat
• Property reverts to the state when its owner dies without a will
or any ascertainable heirs
– Taxation
• right of government to raise revenue through assessments (e.g.
property tax, special assessments)
– Eminent domain
• right of government to take private property for public use

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Limitations on Ownership, con’t...
 Private
– Deed Restriction
• limitation that passes with the land regardless of the owner
– Easement
• access, drainage, view
– Encroachment
• trespassing on the domain of another
– Lease
– Mortgage
– Lien

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Bundle of Rights
 Contains all of the interests in Real Property
– Use and/or improve
– Sell
– Lease
– Enter
– Give it Away
– or do nothing
Each interest can be separated and traded from the bundle

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The Practice of Appraisal
 Appraisal
– an opinion of value
 Appraisal Consulting (Evaluation)
– an analysis, recommendation, or opinion to solve
a problem
 Appraisal Review
– an opinion about the quality of another appraiser’s
work

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Purpose and Intended Use
 The purpose establishes the foundation for the final
value opinion. Some examples are:
– Market Value
• Definitions of market value
– Insurable Value
– Assessed Value
– Use Value
– Investment Value

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Definition of Market Value
The most probable price which a property should bring in a competitive and
open market under all conditions requisite to a fair sale, the buyer and seller
each acting prudently and knowledgeably and assuming the price is not
affected by undue stimulus. Implicit in this definition is the consummation
of a sale as of a specified date and the passing of title from seller to buyer
under conditions whereby:
1. Buyer and seller are typically motivated;
2. Both parties are well informed or well advised, and acting in what they
consider their best interests;
3. A reasonable time is allowed for exposure in the open market;
4. Payment is made in terms of cash in United States Dollars or in terms
of financial arrangements comparable thereto; and
5. The price represents the normal consideration for the property sold
unaffected by special or creative financing or sales concessions granted by
anyone associated with the sale.
Source: Federal Register vol. 55, no. 163, August 22, 1990 pages 34228 and 34229

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International
Definition of Market Value
Market value is the estimated amount for which a
property should exchange on the date of valuation
between a willing buyer and a willing seller in an arm’s
length transaction after property marketing wherein the
parties had each acted knowledgeably, prudently, and
without compulsion.
Source: International Valuation Standards 2000, (London, 2000), 92-93

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Intended Use
 The intended use
– the manner in which the client will employ the
information contained in the appraisal.
• Transfer of Ownership
• Financing and Credit
• Legal Claims
• Tax Matters
– Real Estate Taxes
– Estate Planning and Taxes
• Investment Counseling
– Rental Surveys
– Feasibility Analysis
– Supply and Demand Analysis

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Factors of Value
 Utility
– ability of a product to satisfy a human want, need or
desire
 Scarcity
– supply relative to demand
 Desire
– wish to satisfy a human need
 Effective Purchasing Power
– ability of an individual or group to purchase

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Value, Price and Cost
 Value
– The monetary worth of a property, good or service to buyers
and sellers at a given time. The present worth of future
benefits that accrue to real property ownership.
 Price
– The amount a particular purchaser agrees to pay and a
particular seller agrees to accept under the circumstances
surrounding their transaction.
 Cost
– The total dollar expenditure for an improvement (structure).

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Agents of Production
 Land
– Cost of acquisition
 Labor
– direct and indirect cost to construct and market
the product.
• Land or land and improvements
 Capital
– cost of capital on borrowed and equity capital
invested in the project
 Entrepreneurial coordination
– incentive or profit (reward for the investment of
time and expertise)

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Economic Principles
 Anticipation
– The perception that value is created by the
expectation of benefits to be derived in the future.
• Residential: amenities and pleasures of ownership
• Income: the income it will produce in the future
 Change
– The result of the cause and effect relationship
among the forces that influence real property
value.

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Economic Principles, con’t...
Supply and Demand
– the price of real property varies directly, but not
necessarily proportionately, with demand and
inversely, but not necessarily proportionately, with
supply.
• Supply:
– usually values vary inversely with changes in supply
– quantity of space supplied is slow to adjust to changes in
demand
• Demand:
– supported by effective purchasing power results in effective
demand

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Economic Principles, con’t...
 Competition
– profit encourages competition
 Substitution
– when several similar commodities, goods, or
services are available, the one with the lowest
price will attract the greatest demand and widest
distribution.
• Basis for data selection in the approaches to value
 Balance
– property value is created and sustained when
contrasting, opposing or interacting elements are
in a state of equilibrium.

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Economic Principles, con’t...
 Increasing and decreasing returns
– successive increments of one or more agents of
production added to fixed amounts of the other
agents will enhance income, … until a maximum
return is reached.
 Contribution
– value of a component is measured in terms of its
contribution to the value of the whole property.
• Basis of adjustments in the sales comparison approach

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Economic Principles, con’t...
 Conformity
– real property value is created and sustained when
the characteristics of a property conform to the
demands of the market.
• Basis for under or over improvement of a site
 Externalities
– economies outside a property have a positive
effect on its value, while diseconomies outside a
property have a negative effect on its value.

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Highest and Best Use
The reasonably probable and legal use of vacant land or
improved property, which is physically possible,
appropriately supported, financially feasible, and that
results in the highest value.
Two types:
•H&BU of land or a site as vacant
•H&BU of property, as improved
Interim Use: The temporary use to which a site or improved
property is put until it is ready to be put to its future highest and
best use.
Consistent Use: Land can not be valued on the basis of one
use while improvements are valued on the basis of another.

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So That’s
An Introduction to Real Estate Valuation
Wayne Foss, MBA, MAI, CRE, Fullerton, CA USA
Phone: (714) 871-3585 Fax: (714) 871-8123
Email: wfoss@fossconsult.com