A real estate appraisal is an estimate of the market value of a piece of real estate based upon a variety of factors. An appraisal is conducted by a real estate appraiser, who is specifically trained to estimate the market value of real estate, and is licensed to do so. When buying a house or selling a house, a real estate appraisal is a useful tool, but it is also used by mortgage lenders to determine whether the property has a high enough market value to provide adequate security for the mortgage loan. It is not an exact science.
METHODS OF APPRAISING REAL ESTATE
There are 3 main methods of appraising, or valuing real estate, sometimes used in combination with each other. Which method is used depends on the circumstances in which the real estate is to be used.
Comparative sales approach – This is the most commonly used method. In this method, the real estate appraiser will look for recent sales of property in the area of the real estate to be appraised, and will try to use as similar a property as possible. After obtaining comparable properties recently sold, the appraiser will then compare the features of the recently sold properties with the subject property to obtain a market value of the subject property, either adding or subtracting the value of the features to the value of the subject property.
In the neighborhood of the subject property, the appraiser has found three properties that have sold within the last three months for $200,000 each. The subject property is of the same age, square footage, and type of building materials. However, the subject property has a three car garage, instead of a single car garage, and has a slightly larger lot than the recently sold properties. The appraiser will consider the recent sales, plus the added value of the larger garage and larger lot. The appraiser may then value the subject property at $225,000.
COST REPLACEMENT APPROACH
In this method, the real estate appraiser will inspect the property, noting the type and quality of materials used. The appraiser will then determine how much it will cost to replace the property using comparable materials. After arriving at a replacement cost figure, the appraiser will deduct the cost of a depreciation factor, based on the age and condition of the property.
The subject property is a three bedroom house that cost $250,000 to replace, using comparable materials. However, due to the age of the property certain features, such as the roof, are nearing the end of their useful life. The appraiser will depreciate the roof and other materials, and may then determine that the property has a market value of $225,000.
This method is most commonly used for commercial and rental properties. The appraiser will consider the income that a property is producing, as well as the potential income a property could produce. From this income, the appraiser will deduct the costs of maintaining the property. By subtracting the costs from the income, the appraiser will determine an average annual or monthly or net income for the property. This figure will be multiplied by a factor of years, depending on how long a buyer wishes to wait for a return of his investment.
A property is currently rented for $1,500 per month, with expenses of $200.00 per month. The property has a net income of $1,300 per month, or $15,600 annually. The appraiser determines that this type of property will have a return of investment factor of 12 years. The appraiser will then value the property, based upon the income approach, at $187,200.
A real estate appraisal is simply a tool for determining the market value of property but plays an important function of the real estate sales transaction. At First Foundation, we can review your real estate appraisal with you, answer any questions you may have, or place you in touch with a qualified appraiser.
Equity, Fair Market Value
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