Land Value: Site Analysis and Valuation Techniques

Chapter: Land Value: Site Analysis and Valuation Techniques

This chapter delves into the critical aspects of site analysis and valuation techniques specifically applied to land appraisal. Understanding land value is fundamental to real estate appraisal and development, influencing investment decisions, zoning regulations, and property tax assessments. We will explore the scientific principles, practical applications, and methodologies involved in accurately assessing the worth of land.

1. Introduction to Site Analysis

Site analysis is a comprehensive investigation of a property’s characteristics, both physical and legal, to determine its suitability for various uses and its overall value. This process provides critical insights for making informed decisions related to development, investment, and appraisal.

• Definition: Site analysis is the systematic assessment of a property’s attributes to determine its potential uses, limitations, and ultimate value.
• Importance:
  • Identifies opportunities and constraints for development.
  • Supports highest and best use analysis.
  • Provides data for accurate valuation.
  • Mitigates risks associated with development.
• Key Considerations: Legal, physical, economic, and environmental factors.

2. Property Rights and Public Controls

2. 1 The Bundle of Rights:
   • Concept: Property ownership is not a single right but a bundle of rights, including the right to possess, use, enjoy, and dispose of the property.
   • Severance: These rights can be separated (severed) and transferred individually (e.g., leasing, granting easements).
3. 2 Zoning and Land Use Regulations:
   • Definition: Zoning ordinances are local regulations that control the use of land, specifying permitted activities, density, and building heights.
   • Impact on Value: Zoning significantly impacts land value by dictating what can be built and how intensely the land can be used.
   • Example: A commercially zoned lot on a busy street is more valuable than a residentially zoned lot in the same location because it allows for higher-revenue-generating uses.
4. 3 Deed Restrictions and Covenants:
   • Definition: Deed restrictions (also known as restrictive covenants) are private agreements that limit the use of land, often imposed by developers in subdivisions.
   • Enforcement: These restrictions are typically enforced by homeowners’ associations or other property owners in the area.
   • Impact on Value: Restrictive covenants can either increase or decrease land value depending on the nature of the restriction and the market’s preferences.
   • Example: A deed restriction prohibiting commercial use in a residential subdivision reduces the land value if commercial use would be the highest and best use.
5. 4 Transferable Development Rights (TDRs):
   • Concept: TDR programs allow landowners in designated “sending zones” (areas with conservation value) to sell their development rights to landowners in “receiving zones” (areas suitable for higher-density development).
   • Impact on Value: TDRs preserve land in rural areas while allowing for increased density in urban areas. The value of development rights in remote areas is the same as the component of value attributable to the ability to develop the land.

3. Physical Characteristics and Site Improvements

1. 1 Size and Shape:
   • Impact: The size and shape of a parcel directly influence its usability and development potential.
   • Example: A narrow, oddly shaped lot might be unsuitable for certain types of buildings, reducing its value.
2. 2 Topography and Drainage:
   • Topography: The slope and elevation changes on a site affect construction costs and usability.
     • Steep slopes increase construction costs due to the need for extensive grading and foundation work.
   • Drainage: Proper drainage is essential to prevent water damage and ensure site stability.
     • Poor drainage can lead to flooding, erosion, and foundation problems, significantly decreasing land value.
3. 3 Soil Conditions:
   • Soil Composition: Soil type and stability affect foundation requirements and construction costs.
     • Expansive soils (e.g., clay) can cause foundation cracking and shifting, requiring specialized construction techniques.
   • Soil Contamination: Contamination from past uses can pose significant environmental and financial liabilities.
     • Environmental assessments (e.g., Phase I and Phase II Environmental Site Assessments) are crucial to identify and quantify contamination.
4. 4 Utilities and Access:
   • Utility Availability: Access to public or semi-public utilities (water, sewer, electricity, gas) is a critical determinant of land value.
     • “Sewers drive development” - The availability of sewer service often dictates the feasibility and timing of development projects.
   • Accessibility: Proximity to major transportation routes (roads, highways, public transit) enhances a site’s value.
5. 5 View Amenities:
   • Positive Views: Scenic views (e.g., ocean, mountains, parks) can significantly increase property value, particularly for residential properties.
   • Negative Views: Unattractive views (e.g., commercial buildings, industrial areas) can detract from value.

4. Highest and Best Use Analysis

1. 1 Definition: Highest and best use (HBU) is 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.
2. 2 Four Tests of Highest and Best Use:
   1. Legally Permissible: The proposed use must comply with zoning regulations, deed restrictions, and other legal limitations.
   2. Physically Possible: The site must be physically suitable for the proposed use, considering its size, shape, topography, and soil conditions.
   3. Financially Feasible: The proposed use must generate sufficient income or value to cover development costs and provide a reasonable return on investment.
   4. Maximally Productive: Among all feasible uses, the one that generates the highest value or return is considered the highest and best use.
3. 3 Importance of HBU:
   • HBU is the foundation of land valuation.
   • All appraisal methodologies are based on the assumption that the property is being used in its highest and best use.
   • If the existing improvements do not represent the HBU, the land should be valued as if vacant and available for development.

5. Land Valuation Techniques

1. 1 Sales Comparison Approach:
   • Principle: This approach relies on analyzing recent sales of comparable land parcels to estimate the value of the subject property.
   • Procedure:
     1. Identify comparable sales: Gather data on recent sales of similar land parcels in the same market area.
     2. Verify sales data: Confirm the accuracy of the sales information and ensure that the transactions were arm’s-length transactions.
     3. Adjustments: Make adjustments to the sale prices of the comparables to account for differences between the comparables and the subject property.
     4. Reconciliation: Reconcile the adjusted sale prices of the comparables to arrive at an indicated value for the subject property.
   • Adjustment Factors:
     • Size: Larger parcels often sell for a lower price per unit (acre or square foot) than smaller parcels due to economies of scale.
     • Location: Adjustments are made for differences in location, considering factors such as access, visibility, and proximity to amenities.
     • Topography: Adjustments are made for differences in topography, considering factors such as slope, drainage, and soil conditions.
     • Utilities: Adjustments are made for differences in utility availability, considering the cost and feasibility of extending utilities to the site.
     • Zoning: Adjustments are made for differences in zoning, considering the potential uses and development density allowed under the zoning regulations.
     • Time/Market Conditions: Adjustments are made to compensate for changes in the market over time. A percentage adjustment to the comparable sale is made by identifying the price change per month.
   • Mathematical Representation of Adjustment:
     Adjusted Sale Price = Sale Price ± Σ(Adjustment Factors)
   • Paired Data Analysis:
     • Principle: Isolates the impact of a single variable on property value by comparing the sales prices of two properties that are identical except for that one variable.
     • Example: If two identical lots sold for \$25,000 and \$26,000, and the only difference was that one lot had frontage on Main Street, then the market is paying \$1,000 more for lots on Main Street.
2. 2 Market Extraction Method:
   • Principle: This method extracts the land value from the sale price of an improved property by deducting the depreciated cost of the improvements.
   • Formula:
     Land Value = Sale Price of Improved Property - Depreciated Cost of Improvements
   • Applicability: This method is most reliable when the improvements are relatively new and depreciation is minimal.
   • Limitations:
     • Accurate estimation of depreciation is challenging.
     • This method assumes that the improvements represent the highest and best use, which may not always be the case.
3. 3 Allocation Method:
   • Principle: This method allocates a percentage of the total property value to the land based on typical land-to-total value ratios observed in the market.
   • Procedure:
     1. Research typical land-to-total value ratios for similar properties in the area.
     2. Multiply the total property value by the land ratio to estimate the land value.
   • Formula:
     Land Value = Total Property Value * Land Ratio
   • Example: If similar properties in the area typically have a land-to-total value ratio of 25%, and the subject property is valued at \$400,000, the estimated land value would be \$100,000.
   • Limitations: The ratio may not be accurate for the specific property.
4. 4 Income Capitalization Techniques:
   • Land Residual Technique:
     • Principle: This technique isolates the income attributable to the land by deducting the income required to satisfy the other factors of production (labor, capital, and management) from the total net operating income (NOI).
     • Formula:
       Land Value = Land Income / Land Capitalization Rate
       where,
       Land Income = NOI - (Building Value * Building Capitalization Rate)
     • Applicability: This method is used to estimate land value on income-producing properties.
   • Ground Rent Capitalization:
     • Principle: Directly capitalizes the ground rent (the rent paid for the land) to estimate the land value.
     • Formula:
       Land Value = Ground Rent / Land Capitalization Rate
     • Applicability: This method is applicable when the land is leased under a ground lease.
   • Discounted Cash Flow (DCF) Analysis:
     • Principle: Projects the future cash flows generated by a proposed development project and discounts them back to present value to estimate the land value.
     • Procedure:
       1. Estimate the project’s future revenues and expenses.
       2. Calculate the net cash flow for each year of the projection period.
       3. Discount the cash flows back to present value using an appropriate discount rate.
       4. The present value of the cash flows represents the land value.
     • Formula:
       PV = CF1/(1+r) + CF2/(1+r)^2 + ... + CFn/(1+r)^n
       where PV = Present Value, CF = Cash Flow, r = Discount rate, n = number of periods
     • Applicability: This method is used for valuing land for development projects.

6. Conclusion

Land valuation is a complex process that requires a thorough understanding of site analysis, legal and physical characteristics, and various valuation techniques. By applying the principles and methodologies discussed in this chapter, appraisers and developers can make informed decisions and accurately assess the value of land.