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Site Valuation Methods: From Principles to Practice
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Chapter 6: Site Valuation Methods: From Principles to Practice
I. Introduction
- Overview of the chapter and its objectives.
- Importance of site valuation in real estate appraisal.
- Distinction between site and improvements.
- Briefly mention common reasons for site valuation: cost approach, building residual technique, legal requirements (property tax assessment, condemnation), and highest and best use analysis.
II. Highest and Best Use: The Cornerstone of Site Valuation
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A. Definition of Highest and Best Use (HBU):
- “The reasonably probable and legal use of vacant land or an improved property, which is physically possible, appropriately supported, financially feasible, and that results in the highest value.”
- Emphasize that HBU is not just about maximizing financial return but also considering legal, physical, and market constraints.
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B. The Four Tests of Highest and Best Use (with Detailed Explanations):
- Legally Permissible:
- Definition: The proposed use must comply with all applicable laws, regulations, and private restrictions.
- Examples: Zoning ordinances, building codes, environmental regulations, historic preservation restrictions, deed restrictions, easements, etc.
- Explain how these restrictions limit the potential uses of the site.
- Discuss variances and conditional use permits as possible exceptions, but emphasize the probability of obtaining them.
- Physically Possible:
- Definition: The site’s physical characteristics must be suitable for the proposed use.
- Examples: Size, shape, topography (slope, elevation), soil conditions (bearing capacity, drainage), access, availability of utilities (water, sewer, electricity, gas).
- Address potential challenges and costs associated with physically adapting the site for a specific use (e.g., grading, soil remediation).
- Example Formula: Calculate the cut and fill volume for a site needing grading:
- Cut Volume = Average Cut Depth * Area
- Fill Volume = Average Fill Depth * Area
- Explain how physical limitations can eliminate certain uses.
- Financially Feasible:
- Definition: The proposed use must generate sufficient income or return to justify the investment.
- Explain how to analyze the economic viability of different uses:
- Consider construction costs, operating expenses, market demand, rental rates, sales prices, absorption rates.
- Perform a preliminary cost-benefit analysis to determine if the expected return is adequate.
- Example: Simple Feasibility Calculation
- Potential Gross Income (PGI) - Vacancy & Collection Loss (VC) = Effective Gross Income (EGI)
- EGI - Operating Expenses (OE) = Net Operating Income (NOI)
- If NOI >= Minimum Required Return, then it may be Financially Feasible
- Maximally Productive:
- Definition: Among all legally permissible, physically possible, and financially feasible uses, the one that results in the highest value for the site.
- Compare the profitability and value generated by different uses.
- Consider the concept of “opportunity cost” – the potential return foregone by choosing one use over another.
- Example: Use the land residual method to compare the value generated by two different uses.
- Legally Permissible:
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C. Highest and Best Use As If Vacant vs. As Improved:
- Explain the difference between the two concepts.
- HBU As If Vacant: Determines the ideal use assuming the site is empty and ready for development.
- HBU As Improved: Considers the existing improvements and their contribution to the site’s overall value. This involves considering the cost of demolition or renovation versus the potential increase in value.
- Example: A site with an old building that isn’t the HBU for the property requires the analysis of the “Cost to Cure” by demolishing or renovating before constructing the property at the “As If Vacant” HBU.
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D. Interim Use:
- Definition: A temporary use of a property that is expected to be replaced by a higher and better use in the near future.
- Examples: Parking lots, agricultural land awaiting development, short-term rentals.
- Explain how to value the property considering its interim use and the anticipated future use.
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E. Consistent Use:
- The principle that land and improvements must be valued for the same use.
III. Concepts Related to Site Value
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A. Legal Nonconforming Use:
- Definition: A use that was legally established but no longer conforms to current zoning regulations.
- Explain how a legal nonconforming use may affect the value of the site and its potential future uses.
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B. excess land❓ vs. Surplus Land:
- Excess Land: Land that has the potential to be sold separately from the Primary Parcel and have its own HBU independent of the Primary Parcel.
- Surplus Land: Land that is too large for its HBU, but cannot be broken into separate parcels for their own HBU.
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C. Plottage:
- Definition: The increase in value that results from combining two or more parcels of land into one larger parcel.
- Explain the concept of plottage value (the increment in value due to assemblage).
IV. Site Valuation Methods: From Principles to Practice
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A. sales comparison❓ Method: (The most reliable and preferred method)
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Explanation: Find comparable vacant land sales and adjust for differences to arrive at an indicated value for the subject site.
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Steps Involved:
- Identify Comparable Sales: Gather data on recent sales of similar vacant land parcels in the same or similar market areas.
- Verify Data: Confirm the accuracy of the data with reliable sources (e.g., buyers, sellers, real estate agents, public records).
- Analyze Elements of Comparison: Identify and analyze the key characteristics that affect value:
- Location: Neighborhood desirability, access, amenities, proximity to schools, transportation, etc.
- Size: Adjust for differences in lot size, considering the principle of diminishing returns (e.g., a doubling of lot size doesn’t necessarily double the value).
- Shape: Regular shapes (e.g., rectangular) are generally more desirable than irregular shapes.
- Topography: Level lots are usually easier and less expensive to develop than sloping lots.
- Soil Conditions: Suitable for building (adequate bearing capacity, drainage).
- Zoning and Legal Restrictions: Permitted uses, building height restrictions, setbacks, easements, etc.
- Utility Availability: Access to water, sewer, electricity, gas, etc.
- Date of Sale: Adjust for market conditions if values have changed since the comparable sale date.
- Terms of Sale: Adjust for any unusual financing terms or conditions of sale.
- Adjust Comparable Sales Prices: Make adjustments to the comparable sales prices to account for any differences between the comparables and the subject site. Use a consistent and logical approach (e.g., percentage adjustments, dollar adjustments).
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Example:
Comparable Sale Price Location Size (sq ft) Zoning Adjustment Adjusted Price 1 $100,000 Good 10,000 Residential - $5,000 $95,000 2 $95,000 Average 9,500 Residential + $2,000 $97,000 3 $105,000 Good 10,500 Commercial - $10,000 $95,000 - Indicated Value Range: $95,000 - $97,000
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Formula for Adjustment: Adjusted Sale Price = Comparable Sale Price +/- Adjustments
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B. Allocation Method: (Used to value the land for an improved property, often in mass appraisal)
- Explanation: Determines the land value by allocating a percentage of the total property value to the land component.
- Equation: Land Value = (Total Property Value) x (Allocation Percentage)
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- The allocation percentage can be derived from the ratio of land value to property value for comparable sales of vacant sites that are considered “ideal.”
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Weaknesses: Lacks precision; relies on generalized ratios.
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C. Extraction Method: (Deducting value of the improvements from total)
- Explanation: Land Value = Sale Price - Depreciated Cost of Improvements
- This method is usually based on comparable sales and requires the appraiser❓ to make value adjustments to be effective.
- Formula: Land Value = Market Value of Property - Depreciated Cost of Building
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D. development method❓❓ (Subdivision Development Analysis): (For valuing raw land for subdivision development)
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Explanation:
- Estimate the total revenue that can be generated from the sale of the finished lots.
- Deduct all development costs, including construction, marketing, and financing.
- Discount the remaining amount to its present value.
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Formula: Land Value = Present Value of (Total Revenue - Development Costs)
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This can be a complicated method requiring advanced income valuation knowledge as well as discounted cash flow and is best to be avoided unless the appraiser is specifically trained in the method.
- It requires an in depth understanding of all project expenses.
- The calculation is most accurate when the highest and best use is correct, when market conditions are appropriately considered, and income is accurately estimated.
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E. Land Residual Method: (A form of income capitalization)
- Explanation: Allocates part of the income to the land and then capitalizes the amount.
- Formula:
- NOI (Land) = Overall NOI - (Value of Improvements * Rate of Return on Improvements)
- Land Value = NOI (Land) / Land Capitalization Rate
- Requires advanced understanding of income valuation.
- Land values are dependent on land income.
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F. Ground Rent Capitalization: (For valuing land leased on a long-term basis)
- Explanation: Capitalizes the ground rent (lease payments) to arrive at the land value.
- Formula: Land Value = Ground Rent / Capitalization Rate
- It is most effective when long-term rents can be capitalized.
- Explanation: Capitalizes the ground rent (lease payments) to arrive at the land value.
V. Depth Tables
- Explanation of depth tables and the 4-3-2-1 Rule.
- These may not be accurate as they fail to consider the specific needs of the user.
VI. Conclusion
- Recap of the key site valuation methods and their applications.
- Emphasis on the importance of sound judgment and market knowledge in selecting and applying the appropriate methods.
- Restate the link between site valuation and the overall appraisal process.
VII. Practice Problems/Examples:
- Include several practice problems that require students to apply the different site valuation methods.
- Vary the complexity of the problems to challenge students’ understanding.
VIII. Glossary of Terms:
- Define all key terms used in the chapter.
IX. Chapter Quiz:
- Multiple-choice questions to test students’ comprehension of the material.
By following this outline and incorporating the detailed explanations and examples, you can create a comprehensive and scientifically sound chapter on site valuation methods for your land valuation training course. Remember to use accurate terminology and to emphasize the importance of sound judgment and market knowledge in the appraisal process.
Chapter Summary
Okay, here is a detailed scientific summary in English for the provided chapter excerpt from the “Mastering land❓ Valuation” training course, focusing on “Site Valuation Methods: From Principles to Practice.”
Summary: Site Valuation Methods: From Principles to Practice
This chapter, “Site Valuation Methods: From Principles to Practice,” within the “Mastering Land Valuation” training course, addresses the critical task of independently valuing land within the appraisal process. The core scientific point is that an accurate site valuation is fundamental to several appraisal techniques, particularly the cost approach and building residual technique, as well as for legal requirements in property tax assessment and condemnation. The chapter emphasizes that site valuation is inextricably linked to the concept of Highest and Best Use (HBU).
Key Scientific Points and Principles:
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Necessity of Site Valuation: A separate site valuation is essential when using the cost approach (site value + cost of improvements - depreciation = property value) and the building residual technique. It’s also frequently legally mandated in appraisals for property tax and condemnation. This underscores the importance of having techniques to isolate land value.
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Highest and Best Use (HBU): The chapter implies (though doesn’t explicitly define) that site valuation is always dependent on determining the HBU, both as if vacant and as improved. This is the underpinning scientific concept. HBU dictates the legally permissible, physically possible, economically feasible, and maximally productive use of the land, which directly influences its value.
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Three Approaches to Value and Site Valuation:
- Cost Approach: Relies directly on a separate estimate of site value. This emphasizes the importance of accurate land valuation for this approach to be reliable. Depreciation, the difference between the new cost and current❓ value of improvements, is a crucial factor in using this approach.
- Sales Comparison Approach: Known as the market approach, relies on identifying “comparable” properties to the subject. Similarity is crucial (physical characteristics, appeal to the same buyers, same market area). Adjustments to the comparable sales prices for differences❓ relative to the subject property (e.g., number of bathrooms) are central to its application. The approach uses the formula: Subject Value = Comparable Sales Price +/- Adjustments.
- Income Approach: Assumes value is linked to income generation, with higher income indicating greater value. This approach may use net or gross income. A common technique is to calculate a gross rent multiplier by dividing a comparable rental sale price by its monthly income. The appraiser then multiplies the subject property’s gross monthly income by a multiplier derived from the comparable sales to determine value.
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Reconciliation: The chapter introduces reconciliation as the process of analyzing the different value indicators obtained from the three approaches and forging them into a single, final estimate. This relies on appraiser judgment, a thorough review of the entire appraisal process, and consideration of the appraisal’s intended use to weigh the relative reliability of the value indicators.
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Reporting: The chapter briefly summarizes the two basic appraisal reports which are the appraisal report, which is typically found in a form report, and the restricted appraisal report, which is restricted to the use of one client. The summary highlights that all reports can either be narrative, form, or oral. The essential elements of the appraisal report are to identify the real estate, the property rights, the appraisal’s purpose, the definition of value, the effective date, and the scope and assumptions.
Conclusions and Implications:
- Site valuation is not simply an adjunct; it is often a critical component of the overall appraisal process. Inaccurate site valuations can skew the results of valuation techniques.
- Appraiser Skill and Judgement: The reliance on HBU analysis and reconciliation highlights that appraisal is not simply an algorithmic process. Appraiser experience and judgment are essential to arrive at reliable value estimates, especially in the reconciliation process where subjective decisions are made about the weighting of different value indicators.
- Market Analysis: The necessity of using comparable properties implies that understanding the local market is vital for accurate site valuation. This includes recognizing what constitutes a comparable property, what factors to adjust for, and understanding the dynamics of supply and demand.
- Appraisal Ethics: The chapter implies that the appraiser must limit liability by identifying the use of the appraisal, USPAP dictates the elements of the report to be included, and it is important to define the appraisal problem before conducting the valuation.
In essence, this chapter sets the stage for deeper dives into the individual valuation methodologies discussed in later chapters, emphasizing the foundational importance of isolating and accurately determining the value of the land itself. The summary highlights that appraisers require analytical skills, market knowledge, and an understanding of real estate law and regulations to apply the principles effectively.
