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Real Estate Valuation
The real estate appraisal process is a series of logical steps to estimate the value of a property, involving economic and real estate principles, market conditions, and legal considerations.
The eight steps of the real estate appraisal process:
- Problem Identification: Define the purpose of the appraisal, the property to be appraised, the date of the appraisal, the property rights to be valued, and the definition of value to be estimated.
- Preliminary Analysis: Gather initial information about the property and the market, and define the scope of work and the appraisal plan.
- Data Collection, Verification and Analysis: Collect detailed data about the property, the market, and comparable properties, and verify the accuracy of this data and analyze it systematically.
- Highest and Best Use Analysis: Determine the most profitable, legal, and possible use for the property, whether vacant or built.
- Site Valuation: Estimate the value of the land (site) separately from the improvements (buildings).
- Application of the Three Valuation Approaches: Use the sales comparison approach, the cost approach, and the income approach (when applicable) to estimate the value of the property.
- Reconciliation of Value Indications: Analyze and compare the results of the three valuation methods, and arrive at a final estimate of value.
- Appraisal Report Preparation: Write a detailed report explaining all the steps taken, the data analyzed, and the results reached.
Elaboration of the Appraisal Process Steps:
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Problem Identification:
- Property Identification: Determine the property precisely, including its geographic location, plot number, area, and legal description, using digital maps and GIS.
- Real Estate Rights Identification: Determine the type of real estate rights to be valued, such as Fee Simple, Leasehold, or Easements.
- Use Identification: Determine the current and future use of the property, which may be residential, commercial, industrial, or agricultural.
- Valuation Date: Specify the valuation date, as property value can change over time.
- Retrospective Effect: In some cases, a retrospective valuation is necessary.
- Purpose of the Valuation: Determine the purpose, such as obtaining a mortgage, selling the property, insurance, legal dispute resolution, or tax calculation.
- Intended Users: Identify the intended users of the appraisal report, such as the bank, buyer, seller, or court.
- Value Definition: Define the value to be estimated, such as market value❓❓, Insurable Value, or Liquidation Value. Market Value is the most common, defined as the price at which the property is likely to sell in an open market, between a willing seller and a willing buyer, both aware of the relevant facts, and without coercion.
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Specific Assumptions and Conditions: Identify any assumptions or specific conditions affecting the valuation, such as restrictions on property use or the need for major repairs.
2. Preliminary Analysis: -
Data Identification: Identify the types of data needed, such as property data, market data, and comparable property data.
- Data Source Identification: Identify reliable data sources, such as title records, real estate agencies, real estate databases, and government websites.
- Data Analysis: Conduct an initial analysis of available data to identify market trends and potential comparable properties.
- Appraisal Plan: Develop a detailed appraisal plan, including timeline and budget.
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Fees and Contract: Present a proposal of expected fees and sign a contract with the client defining❓ the scope of work and terms and conditions.
3. Data Collection, Verification and Analysis: -
Specific Data: Collect data related to the property being appraised, such as building age, land area, number of rooms, construction materials, property condition, and any improvements or modifications made.
- Market Data: Collect data related to the real estate market in the area where the property is located, such as prices of similar properties, occupancy rates, rental rates, and supply and demand trends.
- Comparable Properties Data: Collect data related to comparable properties that have been sold recently in the area, including sale prices, sale dates, sale conditions, and property characteristics.
- Data Verification: Verify the validity of the data collected from different sources, ensuring its accuracy and reliability.
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Data Analysis: Analyze the collected data using appropriate statistical and mathematical methods to identify factors affecting the property value.
4. Highest and Best Use Analysis: -
Definition: The most profitable, legal, and possible use for the property.
- Characteristics: Must be legally permissible, physically possible, financially feasible, and maximally productive.
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Importance: Necessary for accurately estimating❓ property value.
5. Site Valuation: -
Reasons: Necessary to determine the land’s contribution to the total property value, estimate the cost of replacing the building, and determine the highest and best use of the site.
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Valuation Methods: Sales comparison, allocation, extraction, development, land residual income, ground rent capitalization, and depth tables.
6. Application of the Three Valuation Approaches: -
Sales Comparison Approach: Based on the principle of substitution, comparing the property to similar properties that have been sold recently, and adjusting the sale prices of comparable properties to reflect the differences between them and the property being appraised. The Estimated value = Sale price of comparable property + adjustments.
- Cost Approach: Based on the principle of substitution, estimating the cost of building a new building similar to the property being appraised, then deducting depreciation from the new cost. The Estimated value = New construction cost - Depreciation + Land value. Depreciation includes physical depreciation, functional obsolescence, and external obsolescence.
- Income Approach: Based on the principle of anticipation, estimating the net operating income (NOI) that the property will generate, then dividing the net income by the capitalization rate to obtain the estimated value. Estimated value = Net Income / Capitalization Rate. Net Income (NOI) = Potential Gross Income - Vacancy - Operating Expenses.
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Reconciliation of Value Indications:
- Analyzing and comparing the results of the three valuation methods, and arriving at a final estimate of value.
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Considerations: reliability of data, suitability of each method, and prevailing market conditions.
8. Appraisal Report Preparation: -
A written document explaining all the steps taken, the data analyzed, and the results reached.
- Essential Elements: Problem identification, property description, market analysis, highest and best use analysis, site valuation, application of the three valuation methods, reconciliation of value indications, final value estimate, assumptions and specific conditions, and appraiser certification.
Real Estate Valuation in the Digital Age:
- Mobile phone technology is used for field data collection, capturing photos, recording notes, and accessing digital maps.
- Geographic Information Systems (GIS) are used for spatial data analysis, identifying similar properties, and assessing the impact of environmental factors on property value.
- Real estate databases are used to access information about properties, such as sale prices, taxes, and legal descriptions.
- Artificial Intelligence (AI) and Machine Learning (ML) are used for analyzing big data, identifying market trends, and estimating property value automatically.
- Virtual Reality (VR) and Augmented Reality (AR) are used for visiting properties remotely, assessing their condition, and presenting them to clients.
Following the eight steps of the appraisal process systematically, the appraiser can arrive at an accurate estimate of the property value. Technological developments provide appraisers with tools to enhance efficiency and accuracy.
Chapter Summary
The third chapter of the “Real Estate Valuation Fundamentals in the Digital Age” course addresses the topic of “Real Estate Valuation Process” by explaining the systematic steps followed by the real estate appraiser to estimate the value❓ of the property.
Main Points:
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Eight Steps of the Real Estate Valuation Process: The chapter focuses on dividing the valuation process into eight basic steps:
- defining❓ the Valuation Problem: Identifying the property to be valued, the valuation date, the purpose of the valuation, and the required value basis (e.g., market value).
- Preliminary Analysis: Determining the necessary data for the valuation, the sources of this data, and conducting a preliminary analysis of the available information.
- Data Collection, Verification, and Analysis: Collecting data related to the property itself, relevant market data, verifying the accuracy of this data, and analyzing it systematically.
- Highest and Best Use Analysis: Determining the most profitable and legal use of the property, whether vacant or built, considering legal and economic constraints.
- Site Valuation: Determining the value of vacant land, even for built properties, as land value significantly affects the overall value.
- Applying the Three Valuation Approaches: Using the three basic valuation approaches (cost approach, sales comparison approach, income❓ approach) to estimate the value of the property.
- Reconciliation of Value Indications: Analyzing and comparing the results obtained from different valuation methods, and determining the best estimate of value based on the importance and reliability of each method.
- Preparing the Appraisal Report: Documenting the valuation process and the results in a comprehensive and organized report, explaining the methodology used, the data relied upon, and the conclusions reached.
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Defining the Valuation Problem (Step One in Detail): The chapter dedicates a large part of the explanation to clarifying the importance of this step, as it defines the scope of the valuation and guides the rest of the steps. It emphasizes the importance of determining:
- The nature of the property: Identifying the property rights to be valued (e.g., fee simple, leasehold).
- Valuation Date: Determining the date on which the value is estimated, as value changes over time.
- Purpose of the Valuation: Determining the reason for conducting the valuation (e.g., sale, mortgage, insurance), as the purpose may affect the type of value to be estimated.
- Basis of Value: Determining the type of value to be estimated (e.g., market value, insurable value).
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Types of Appraisal Reports: The chapter refers to the two main types of appraisal reports: summary reports and detailed reports, clarifying the essential elements that all reports must include.
Conclusions:
- The real estate valuation process is a systematic process that requires following specific steps to ensure an accurate and reliable estimate of the value of the property.
- Defining the valuation problem is the most important step, as it defines the scope of the valuation and guides the rest of the steps.
- The real estate appraiser must be aware of the different valuation methods and be able to apply them correctly.
- The appraisal report should be comprehensive, organized, and clear, explaining the methodology used, the data relied upon, and the conclusions reached.
