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Variations In Real Property Values By Jon M. Ripans 2011 04 11


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Nuts and Bolts of Various Types of Value in Real Estate Valuation and Business Valuation

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Variations In Real Property Values By Jon M. Ripans 2011 04 11

  1. 1. Variations in Real Property ValuesBy Jon M. Ripans, J.D., M.B.A. Finance, Esq.Certified General Real Property Appraiser1To a man who has a hammer, every problem looks like a nail - Unknown Aphorist.When we think of real estate valuation, we normally ask, "what is a property worth?"The answer is usually the current Market Value of the Fee Simple Estate, but sometimeswhat is really needed is some other type of value. Market ValueThe most common value in real property appraisal is the current Market Value of the feesimple estate. Generally speaking, this is the all-cash price, in U.S. dollars, that a typicalbuyer would pay and a typical seller would accept, each being adequately informed andtypically motivated, with no heightened need or urgency to buy or sell. The actualdefinition of Market Value in The Dictionary of Real Estate Appraisal is as follows: The major focus of most real property appraisal assignments. Both economic and legal definitions of market value have been developed and refined. 1. The most widely accepted components of market value are incorporated in the following definition: The most probable price that the specified property interest should sell for in a competitive market after a reasonable exposure time, as of a specified date, in cash, or in terms equivalent to cash, under all conditions requisite to a fair sale, with the buyer and seller each acting prudently, knowledgeably, for self-interest, and assuming that neither is under duress. 2 Sometimes, though, current market value of the fee simple estate is not the type ofvalue being sought because of client wishes (assignment/factual circumstances), legalrequirements or both.1 The author has appraised $1.5 billion of commercial real estate in a wide variety of contexts, and hasserved as an expert witness, court-appointed property tax arbitrator, and property tax advocate. He appearsto be the only person in the state of Georgia who is a Certified General Real Property Appraiser, Attorneyat Law and Registered Neutral (Arbitration and General Mediation).As for long titles, Jon is the current Secretary of the Property Tax Subcommittee of the Real Property LawSection of the State Bar of Georgia.Jon M. Ripans is available to serve as a mediator, arbitrator, special master, receiver, or otherjudicial adjunct, either by agreement of the parties or court appointment. Jon is approved to serveas a Property Tax Hearing Officer, a special form of neutral recently created by statute.2 Appraisal Institute, The Dictionary of Real Estate Appraisal, 5th ed. (Chicago: Appraisal Institute, 2010).Copyright 2011 by Jon M. Ripans Page 1 of 4
  2. 2. Variations in Value Temporal Variations in ValueValues may vary in time, from retrospective value to current value to prospective value,depending upon the relevant date of value for a particular appraisal assignment. Lendingassignments on buildings that are stabilized, i.e., "leased up," usually have a date of valuethat is similar to the date of the report. Assignments that have other dates of valueinclude buildings that not leased up (prospective date of stabilization), estate taxes(retrospective date of death), gift taxes (date of gift), eminent domain (date of taking),property taxes/ad valorem taxation (date of assessment, which is January 1 in Georgia). Property Right Variations - Fee Simple versus Leased Fee and LeaseholdThe type of value can also vary according to the property rights at issue. The Fee SimpleEstate is the most complete bundle of rights a property owner can enjoy and is defined as"[a]bsolute ownership unencumbered by any other interest or estate, subject only to thelimitations imposed by the governmental powers of taxation, eminent domain, policepower, and escheat."3 If the property is leased, however, the landlord has a Leased FeeInterest. The value of the Leased Fee Interest would essentially equal the fair marketvalue of the Fee Simple Estate if the subject property is leased at market rates. If thesubject property is leased for less than market rates, then the Leased Fee Interest is worthless than the Fee Simple Estate and tenants Leasehold Interest4 has positive value.Conversely, if the subject is leased for more than market rates, then the tenant who iscontractually obligated to pay such rents has a leasehold estate with negative value (andthe landlord has a Leased Fee Estate that is more valuable than the Fee Simple Estatebecause the landlord is "ahead of the game" in terms of contract rent versus typicalmarket rent). Other Types of ValueThen, there are values that differ not just temporally or according to the bundle of rightsat issue, but involve different computations altogether or different levels of motivation. Insurable Value and Going Concern Value require different computations thanMarket Value, while Investment Value, Disposition Value and Liquidation Value involveatypical motivations. The Insurable Value of a property usually is the replacement (as opposed toreproduction) cost of the vertical improvements, which do not include 1) the value of theland, 2) most improvements to the land such as landscaping/irrigation, drives, signageand lighting, and 3) horizontal infrastructure such as water/sewer pipes and conduits for3 Id.4 Leasehold Interest is defined as "[t]he tenant’s possessory interest created by a lease. See also negativeleasehold; positive leasehold." Appraisal Institute, The Dictionary of Real Estate Appraisal, 5th ed.(Chicago: Appraisal Institute, 2010).Copyright 2011 by Jon M. Ripans Page 2 of 4
  3. 3. natural gas, electricity and telecommunications. A bank that is underwriting a loan maywant an opinion of Insurable Value for purposes of loan covenants. Going Concern Value is a form of business value and involves not only the realproperty, but also personal property such as furniture, fixtures and equipment (FF&E), aswell as intangible values. Going Concern Value is relevant in a variety of situations inwhich real property and personal property are strongly interwoven with business value.One example would be a convenience store with gas, which requires gasoline dispensingequipment, underground tanks, tank monitoring systems, canopies, and, in mostjurisdictions, fire suppression equipment. Going Concern Value is important when thevalue being sought is not a direct ownership interest in the real property but the value ofstock or equity position in the business entity (LLC, partnership, joint venture,corporation, etc.) that owns (or operates) the property. Going Concern Value isfrequently encountered in connection with estate and gift taxes, business acquisitions,buy-ins, and buy-outs. As for atypical motivations, Investment Value is "[t]he value of a property interestto a particular investor or class of investors based on the investor’s specific requirements.Investment value may be different from market value because it depends on a set ofinvestment criteria that are not necessarily typical of the market." Disposition Value and Liquidation Value differ from Market Value in thatDisposition Value involves a seller who "is under compulsion to sell" and LiquidationValue involves a seller who "is under extreme compulsion to sell." Values That Are Specified by LawFinally, there are values that are imposed by law. A useful contrast can be found bycomparing "true market value" under Georgia foreclosure law and "market value" forpurposes of ad valorem taxation in Georgia. In Georgia, foreclosure confirmations require a showing that the value realized orcredit bid under power of sale was the "true market value."5 "True market value" means"fair market value."6 But, when it comes to property taxes, Georgia is considered to bean "existing use state." Implicit in the appraisal definition of market value is the concept that the subjectproperty is being put to its highest and best use, but "market value" for purposes of advalorem taxation in Georgia is based upon the "existing use," which may not match thehighest and best use for a particular property. Think of a single-family residential houseon a major connector road with high traffic volume that could be converted to some sort5 See O.C.G.A. Section 44-14-161.6 See Wilson v. Prudential Indus. Properties, LLC, 276 Ga. App. 180, 181, 622 S.E.2d 890 (2005); Aaron v.Life Ins. Co. of Georgia, 138 Ga. App. 286, 226 S.E. 2d 96 (1976). See also Gutherie v. Ford EquipmentLeasing Co., 206 Ga. App. 258, 260(1) (424 S.E.2d 889) (1992) (citing IRS Treasury Regulation 20.2031-1(b) estate tax definition of “fair market value” in foreclosure confirmation.)Copyright 2011 by Jon M. Ripans Page 3 of 4
  4. 4. of office or commercial use, or, torn down and either rebuilt with an office or retailstructure or assembled into a larger tract. Highest and Best Use is defined as: The reasonably probable and legal use of vacant land or an improved property that is physically possible, appropriately supported, financially feasible, and that results in the highest value. The four criteria the highest and best use must meet are legal permissibility, physical possibility, financial feasibility, and maximum productivity. Alternatively, the probable use of land or improved property—specific with respect to the user and timing of the use—that is adequately supported and results in the highest present value.Highest and Best Use, however, is not used in determining value for property taxes underO.C.G.A. Section 48-5-2(3)(B), which provides: (B) The tax assessor shall consider the following criteria in determining the fair market value of real property: (i) Existing zoning of property; (ii) Existing use of property, including any restrictions or limitations on the use of property resulting from state or federal law or rules or regulations adopted pursuant to the authority of state or federal law; (iii) Existing covenants or restrictions in deed dedicating the property to a particular use; (iv) Foreclosure sales, bank sales, other financial institution owned sales, or distressed sales, or any combination thereof, of comparable real property; (v) Decreased value of the property based on limitations and restrictions resulting from the property being in a conservation easement; and (vi) Any other existing factors deemed pertinent in arriving at fair market value.The difference between existing use and highest and best use is also present in the case ofconservation use property under O.C.G.A. Section 48-5-2(1) and transitional useresidential property under O.C.G.A. Section 48-5-2(2).ConclusionAlthough the current Market Value of the fee simple estate is the value that is mostcommonly addressed by real property appraisals, there are other types of values andvariations of value that should be kept in mind by users of appraisals and others, such asattorneys, judges, special masters, receivers, etc.Copyright 2011 by Jon M. Ripans Page 4 of 4