Property Valuation and Market Analysis
The three approaches
Sales comparison (adjust comparables for differences, never adjust the subject) is the primary approach for residential resale. Cost approach (land value plus replacement or reproduction cost minus depreciation) suits new or special-purpose property. Income approach (NOI divided by cap rate, or rent times gross rent multiplier) suits investment property. Depreciation splits into physical deterioration (curable or incurable), functional obsolescence (outmoded features, poor layout), and external obsolescence (locational or market forces, generally incurable).
Key concepts
Highest and best use is the reasonably probable, legally permissible, physically possible, financially feasible, and maximally productive use - it must be tested before choosing an approach. Reconciliation weights the approaches rather than averaging them. A broker price opinion or comparative market analysis is not an appraisal; it is a marketing tool and must be labeled as such. Appraisal independence rules (Dodd-Frank and the AMC structure) prohibit coercion of appraisers.
Traps
Adjustments are made to the comparable, not the subject. A cap rate and a gross rent multiplier move in opposite directions from value: higher cap rate means lower value; higher GRM means higher value. External obsolescence is never curable. Net income, not gross, drives the income approach - vacancy and operating expenses must be deducted, but debt service and depreciation must not be.
Worked examples
Capitalization: a property produces an effective gross income of $60,000 with operating expenses of $12,000, giving NOI of $48,000. At an 8% cap rate, value = $48,000 / 0.08 = $600,000. Multiply by cap rate to check: $600,000 × 0.08 = $48,000. Gross rent multiplier: monthly rent $1,500 and a GRM of 120 give an indicated value of $180,000.