There are three generally recognized approaches to value, which may be used in estimating the value of real estate property. The following brief description of each is intended to familiarize the reader with the general premises and tenets (principles) of each approach with a more detailed explanation of the techniques contained in each approach to value utilized in the analysis of the Subject property.
COST APPROACH – based on the proposition that the informed purchaser would pay no more than the cost of producing a substitute property with the same utility as the subject property. It is particularly applicable when the property being appraised involves relatively new improvements which represent the highest and best use of the land or when relatively unique or specialized improvements are located on the site and for which there exist no comparable properties in the market area.
INCOME APPROACH – converts anticipated benefits (dollar income or amenities) to be derived from the ownership of property into a value estimate. The Income Approach is widely applied in appraising income-producing properties. Anticipated income and/or reversions are converted to a value opinion through the application of market-derived rates and formulas. Widely used CAP rate is 10%.
SALES COMPARISON APPROACH – is based on the proposition that an informed purchaser would pay no more for a property than the cost of acquiring an existing property with the same utility. This approach is applicable when an active market provides sufficient quantities of reliable data which can be verified from authoritative sources. The Sales Comparison Approach is relatively unreliable in an inactive market or in estimating the value of properties for which no real comparable sales data is available. It is also questionable when sales data cannot be verified with the participants to the transaction.
In order to arrive at an estimate of market value for the property being appraised, it is necessary to assemble from the marketplace as much information as is considered pertinent to the appraisal process. This information is then utilized in the three different appraisal approaches.
After arriving at an indication of value by each of the three approaches, they are reconciled into a single estimate of value based upon the approach which has the highest reliability, and the one which the market participant typically has the greatest confidence.
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