Valuation Approaches and Methods
Three approaches
Appraisers reconcile the sales comparison, cost, and income approaches. Selection depends on property type and data quality: owner-occupied homes lean on sales comparison; special-purpose buildings lean on cost; income property leans on the income approach.
Sales comparison
Adjust comparables to the subject using paired data analysis and sequence: transactional (financing, concessions, conditions of sale) first, then market conditions (time), then property characteristics (location, size, quality, amenities). Apply adjustments to the comparable to make it like the subject. Trap: adjusting the subject instead of the comparable, or double-counting an adjustment.
Cost approach
Replacement or reproduction cost new, minus physical deterioration (curable/incurable), functional obsolescence (curable/incurable), and external obsolescence (always incurable, measured on the whole property). Add land value. Trap: deducting external obsolescence from the building only when it should be applied to total property value.
Income approach
Direct capitalization: Value = NOI ÷ Cap Rate. Gross rent multiplier = Price ÷ Gross Rent. Know potential gross income, vacancy and collection loss, effective gross income, operating expenses, and NOI. Exclude debt service, depreciation, and capital improvements from operating expenses. Trap: using before-tax cash flow instead of NOI.
Worked example
NOI = $48,000; market cap rate = 8%. Value = 48,000 ÷ 0.08 = $600,000. If the cap rate falls to 7.5%, value rises to $640,000 - inverse relationship between cap rate and value.