Real Estate Practice 051623

1. The Real Estate School
U N I T 2 0
APPRAISING
REAL ESTATE
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2. OVERVIEW
• Real estate licensees must be aware of the fundamental principles
of valuation in order to complete an accurate and effective
Competitive Market Analysis
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3. APPRAISING
• Appraisal – An estimate or opinion of value based on supportable
evidence and approved methods
• Appraisal Report – An opinion
of market value on a property
given to a lender or client with
detailed and accurate
information
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4. APPRAISING
• Appraiser – An independent professional trained to provide an
unbiased estimate of value in an impartial and objective manner
according to the appraisal process
• Appraising is a
professional
service performed
for a fee
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5. APPRAISING
• Regulation of Appraisal Activities
• Appraisals used in connection with
federally related transactions must
be performed by a competent
individual who is subject to
supervision and regulation
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6. APPRAISING
• Regulation of Appraisal Activities (cont’d)
• Appraisers follow the Uniform Standards of
Professional Appraisal Practice (USPAP)
which define the education, examination,
and experience required
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Page 392

7. APPRAISING
• The Number of Real Estate Appraisers
7

8. APPRAISING
• Automated Valuation Model (AVM)
• Growing in acceptance
• Rely on statistical models
• Can be quite accurate, particularly when
used in a very homogeneous area
• Not as reliable in rural areas or when
property does not conform well to the
neighborhood
8

9. APPRAISING
• Regulation of Appraisal Activities (cont’d)
• Three classes of certification:
1. Certified General Real Estate Appraiser – Appraise any
residential or nonresidential property
2. Certified Residential Real Estate Appraiser – Appraise only
residential property
3. Broker/Appraiser – Appraise properties valued under
$250,000 not involved in federally related transactions (no
longer available)
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10. APPRAISING
• Comparative Market Analysis – A written analysis or opinion
relating to the probable sales price of a specific property
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11. APPRAISING
• Licensees may prepare
a CMA to help determine
an asking price to secure
a listing or an offering
price for a buyer’s offer
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12. APPRAISING
• Broker’s Price Opinion (BPO) – Less expensive alternative of
valuating property often used by lenders working with home
equity lines, refinancing, portfolio management, loss mitigation,
and collections
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13. APPRAISING
• Broker’s Price Opinion (BPO) (cont’d)
• Pennsylvania allows licensees to
perform BPO’s in certain situations
and only after taking specific BPO
education
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Page 394

14. APPRAISING
• Broker’s Price Opinion (BPO) (cont’d)
• BPO’s may be performed in situations that are not transaction
related:
1. Property owned by lender after an
unsuccessful sale at a foreclosure auction
2. Modification of a mortgage or line of
credit
3. Short sale
4. Evaluation of a portfolio of properties
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15. APPRAISING
• Broker’s Price Opinion (BPO) (cont’d)
• The chart comparing a CMA to a BPO has a mistake:
• A fee may NOT be charged for a CMA
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Page 395

16. THE APPRAISAL PROCESS
• Data is divided into two basic classes:
1. General Data – Covers the nation, region, city, and
neighborhood
2. Specific Data – Covers details
of the subject property as well
as comparative data
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17. THE APPRAISAL PROCESS
• Eight steps in the appraisal process:
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State the
Problem
List the Data
Gather,
Record,
Verify,
Analyze
Highest &
Best Use
Estimate the
Land Value
Estimate
Value Under
Three
Approaches
Reconcile Report
Figure 20.1
1 8
5 6
2 3 4 7

18. THE APPRAISAL PROCESS
• Appraisal reports should contain the following:
• Identify the property being appraised
• State purpose of intended use
• Define the value to be estimated
• Effective date of report
• State the extent of the process
• List all assumptions and limiting conditions
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Page 396

19. THE APPRAISAL PROCESS
• Appraisal reports should contain the following: (cont’d)
• Describe information considered, appraisal
procedures followed, and reasoning
to support conclusion
• Opinion of highest and best use
• Describe additional information used
• Signed certification
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Page 396-397

20. • To have value in the real estate market, a property must have the
following characteristics:
• Demand – Need or desire for possession backed up by
financial means
• Utility – Capacity to satisfy needs and desires
• Scarcity – Finite supply
• Transferability – The ease with which ownership can
be transferred
VALUE
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D
U
S
T

21. • Market Value – The most probable price that a property should
bring in a fair sale
• The definition makes three assumptions:
1. Competitive and open market
2. Parties are acting prudently and
knowledgeably
3. Not affected by unusual
circumstances
VALUE
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Page 397

22. • Market Value (cont’d)
• The most probable price is not the average or highest price in a
CMA or appraisal
• Parties are unrelated and acting
without undue pressure
• Parties are informed about the
property’s use and potential
VALUE
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23. • Market Value (cont’d)
• Reasonable time for exposure on the market
• Payment made in cash or equivalent
• Unaffected by special financing,
services, fees, costs, or credits
in the transaction
VALUE
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Page 397-398

24. • Market Value (cont’d)
• Market Value vs. Market Price – Opinion of value based on analysis of
data vs. actual sales price
• Market Value vs. Cost – Cost (usually) does not equal market value
VALUE
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25. • Market Value (cont’d)
VALUE
25

26. • Market Value (cont’d)
• Basic Principles of Value
• Anticipation – Value is created by the expectation that certain
benefits will be realized in the future
• Change – No physical or economic condition remains constant
• Competition – Interaction of supply and demand
VALUE
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Page 398

27. • Market Value (cont’d)
• Basic Principles of Value (cont’d)
• Conformity – Maximum value is realized when a property is in
harmony with its surroundings
• Contribution – Value of any part of a property is measured by
its effect on the value of the whole parcel
VALUE
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28. • Market Value (cont’d)
• Basic Principles of Value (cont’d)
• Highest and Best Use – The most profitable single use that is:
• Legally permitted
• Financially feasible
VALUE
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Page 399
• Physically possible
• Maximally productive

29. • Market Value (cont’d)
• Basic Principles of Value (cont’d)
• Increasing and Diminishing Returns – The addition of
improvements increases value only to the asset’s maximum
value
• Plottage – Merging adjacent lots into a single larger one
produces a greater land value than the sites would separately
VALUE
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30. • Market Value (cont’d)
• Basic Principles of Value (cont’d)
• Regression and Progression – The worth of a higher-quality
property is adversely affected by the presence of a lower-
quality property (regression) and the worth of a lower-quality
home is favorably affected by the presence of a higher-quality
property (progression)
VALUE
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31. • Market Value (cont’d)
• Basic Principles of Value (cont’d)
• Substitution – Property’s maximum value tends to be set by
how much it would cost to purchase an equally desirable
property
• Supply and Demand – When supply increases, value
decreases; when demand increases, value increases
VALUE
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32. • All measurements are taken from
exterior walls
• Unfinished areas are not included
• Areas below grade or partially below
grade are not included
• Unheated areas are not included
• Square footage is only counted on areas
that you can walk on
MEASURING SQUARE FOOTAGE
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33. • Rancher (1 story)
MEASURING SQUARE FOOTAGE
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34. • 2 story
MEASURING SQUARE FOOTAGE
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35. • Cape Cod (1½ story)
MEASURING SQUARE FOOTAGE
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36. • Bi-level (Raised Ranch)
MEASURING SQUARE FOOTAGE
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37. • Split Level
MEASURING SQUARE FOOTAGE
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38. 1. Sales Comparison Approach
2. Cost Approach
3. Income Approach
THE THREE APPROACHES TO VALUE
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39. 1. Sales Comparison Approach – An estimate of value is obtained
by comparing the subject property with recently sold
comparable properties
THE THREE APPROACHES TO VALUE
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40. 1. Sales Comparison Approach (cont’d)
• Comparable properties are analyzed for differences between it
and the subject property
• Approach relies heavily on the principle of substitution
THE THREE APPROACHES TO VALUE
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41. 1. Sales Comparison Approach (cont’d)
• Elements of comparison:
• Property Rights
• Financing Concessions
• Market Conditions
• Conditions of Sale
THE THREE APPROACHES TO VALUE
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• Market conditions since
the date of sale
• Location
• Physical features and
amenities

42. 1. Sales Comparison Approach (cont’d)
• Considered the most reliable approach when appraising
single-family homes
• Most appraisals include a minimum of three comparable sales
THE THREE APPROACHES TO VALUE
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43. 1. Sales Comparison Approach (cont’d)
• TIP - A dollar value is assigned to each difference
between the subject property and the comparable
properties (comp)
• TIP - Adjustments are always made to comps NOT
subject:
• If comp better than subject – decrease comp
• If comp worse than subject – increase comp
THE THREE APPROACHES TO VALUE
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44. THE THREE APPROACHES TO VALUE
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Sales Price ----- $ 150,000 $ 160,000 $ 157,000
Square
Footage
1,500
1,350
+ $2,500
1,690
- $2,500
1,550
Garage 1 car
None
+ $4,000
2 car
- $2,500
1 car
Fireplace Yes
No
+ $1,000
Yes Yes
Acreage .25 acres .20 acres .32 acres .29 acres
Net
Adjustments
+ $7,500 - $5,000 -0-
Adjusted
Value
$ 157,500 $ 155,000 $ 157,000
#1 #2 #3
1. Sales
Comparison
Approach
Figure 20.2
(condensed)

45. APPRAISING
• Broker’s Price Opinion (BPO) (cont’d)
• The chart comparing a CMA to a BPO has a mistake:
• A fee may NOT be charged for a CMA
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Page 395

46. 2. Cost Approach
• Also based on the principle of substitution
• Most useful when appraising newer or special-purpose
buildings
• Usually not enough local sales
to use as comparables and
because the property does
not generate income
THE THREE APPROACHES TO VALUE
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Page 402

47. 2. Cost Approach (cont’d)
• The cost approach contains five steps:
1. Estimate the value of the land
2. Estimate the current cost of constructing building
3. Estimate the accrued depreciation
4. Deduct accrued depreciation from current cost
5. Add land value to depreciated cost of building
THE THREE APPROACHES TO VALUE
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Page 402

48. 2. Cost Approach (cont’d)
• Construction costs can be calculated in two ways:
1. Reproduction Cost – Cost to construct an exact duplicate
with both benefits and drawbacks
2. Replacement Cost – Cost to
construct a similar property
using current materials and
techniques
THE THREE APPROACHES TO VALUE
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Page 402

49. 2. Cost Approach (cont’d)
• Determining Reproduction/Replacement Cost NEW
• Square Foot Method – The cost/square foot of recently
built structures multiplied by the number of square feet
• The most common and
easiest method of cost
estimation
THE THREE APPROACHES TO VALUE
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Page 403

50. 2. Cost Approach (cont’d)
• Determining Reproduction/Replacement Cost NEW
• Unit-in-Place Method – The construction cost per unit of
measure of individual components
THE THREE APPROACHES TO VALUE
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Page 403

51. 2. Cost Approach (cont’d)
• Determining Reproduction/Replacement Cost NEW
• Quantity Survey Method – The quantity and quality of all
materials and the labor are calculated on a unit-cost basis
then added to indirect costs to arrive at a total cost
• Most time consuming and most accurate
THE THREE APPROACHES TO VALUE
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Page 403

52. 2. Cost Approach (cont’d)
• Determining Reproduction/Replacement Cost NEW
• Index Method – A factor representing the percentage
increase to the present time is applied to the original cost
of the property
THE THREE APPROACHES TO VALUE
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Page 403

53. 2. Cost Approach (cont’d)
• Depreciation – Loss in value due to any cause
• Land does not depreciate
but retains its value
indefinitely
THE THREE APPROACHES TO VALUE
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Page 404

54. 2. Cost Approach (cont’d)
• Depreciation is divided into three classes:
1. Physical Deterioration – Items in need of repair
THE THREE APPROACHES TO VALUE
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Curable Incurable

55. 2. Cost Approach (cont’d)
• Depreciation is divided into three classes:
2. Functional Deterioration – Outmoded or unacceptable
design features
THE THREE APPROACHES TO VALUE
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Curable Incurable

56. 2. Cost Approach (cont’d)
• Depreciation is divided into three classes:
3. External Depreciation – Negative factors external to the
property and beyond the owner’s control
THE THREE APPROACHES TO VALUE
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Incurable Incurable

57. 2. Cost Approach (cont’d)
• The easiest but least precise way to determine depreciation is
the Straight-Line Method
• Property’s cost is divided by the number of years of its expected
economic life
THE THREE APPROACHES TO VALUE
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13 15 17
16 18 20
19 22
21 23 24

58. THE THREE APPROACHES TO VALUE
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2. Cost
Approach
Figure 20.3
1. Land Valuation: 60’ x 135’ @ $450/front foot $ 27,000
Plus site improvements: driveway, landscaping, etc. 8,000
Total Land Value $ 35,000
2. Building Valuation: Replacement cost
1,500 sq. ft. @ $65/sq.ft. $ 97,500
3. Less Depreciation:
Physical Depreciation
Curable: exterior painting $ 4,000
Incurable: structural deterioration 9,750
Functional Obsolescence 2,000
External Depreciation -0-
Total Depreciation $ -15,750
4. Depreciated Value of Building $ 81,750
5. Indicated Value by Cost Approach $116,750

59. 3. Income Approach – Based on the present value of the rights to
future income
• Assumes income derived from property will control the value
of the property
• Used for valuation of
income-producing
properties
THE THREE APPROACHES TO VALUE
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Page 404

60. 3. Income Approach (cont’d)
• The income approach contains five steps:
1. Estimate annual potential gross income
2. Deduct allowance for vacancy and rent loss – Effective
Gross Income
3. Deduct annual operating expenses – Net Operation
Income (NOI)
THE THREE APPROACHES TO VALUE
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Page 405

61. 3. Income Approach (cont’d)
• The income approach contains five steps: (cont’d)
4. Estimate the rate of return an investor will demand for
the investment for this type of building (Capitalization
Rate -or- Cap Rate)
5. Apply the Cap Rate to the property’s Net Operation
Income to estimate value
THE THREE APPROACHES TO VALUE
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Page 405

62. 3. Income Approach (cont’d)
• Capitalization Rate Formulas:
• Income ÷ Cap Rate = Value
• Income ÷ Value = Cap Rate
• Value x Rate = Income
• If you know two variables you can always solve for the third
THE THREE APPROACHES TO VALUE
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63. THE THREE APPROACHES TO VALUE
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3. Income
Approach
Figure 20.4
1. Potential Gross Annual Income
Market rent $ 60,000
Income from other sources 600 $ 60,600
2. Allowance for Vacancy & Rent Loss (est. 4%) -2,424
Effective Gross Income $ 58,176
3. Operating Expenses
Taxes $ 9,000
Insurance 1,000
Heat, utilities, electricity, water, gas 3,600
Repairs and decoration 2,600
Replacement of equipment 800
Legal, accounting, management 3,600 $ 27,000
Net Operating Income (NOI) $ 31,176
4. Capitalization Rate 10%
5. Estimated Value (NOI ÷ Cap Rate) $311,760

64. 3. Income Approach (cont’d)
• Gross Rent Multiplier (GRM) – Used if a one to four unit rental
property is being appraised
• Appraiser uses recent sales and rental data from at least four
properties that are similar to the subject
• Sales Price ÷ Monthly Gross Rent = GRM
THE THREE APPROACHES TO VALUE
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Page 407

65. 3. Income Approach (cont’d)
• Gross Income Multiplier (GIM) – Used if a five or more unit
rental property is being appraised
• Sales Price ÷ Annual Gross Income = GIM
THE THREE APPROACHES TO VALUE
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66. 66
• Use the comparable properties provided
to fill-in each property’s attributes
• Make adjustments:
o If comp is better than subject –
decrease comp
o If comp is worse than subject –
increase comp

67. 67

68. THE THREE APPROACHES TO VALUE
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Problem:
Determine the value of the old
Bishop McDevitt High School,
Harrisburg, PA

69. THE THREE APPROACHES TO VALUE
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70. • Reconciliation – The art of analyzing and effectively weighing the
findings from the three approaches to find an appropriate market
value
• Not simply the average of the three estimates of value
THE THREE APPROACHES TO VALUE
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71. • Reconciliation (cont’d)
• Certain approaches are more valid and reliable with some kinds
of properties than others:
• Sales Comparison Approach – Single family homes
• Cost Approach – New or special-use properties
• Income Approach – Investment properties
THE THREE APPROACHES TO VALUE
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