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What is an appraisal?

A real estate appraisal is an independent opinion of the estimated Market Value of real property. The appraisal should be prepared by a trained State Certified or State Licensed Appraiser who is familiar with the local market and with the type of property being appraised.

The appraisal process is an orderly procedure wherein the data utilized in estimating the value of the subject property is acquired, classified, analyzed, and presented. The first step in this process involves defining the appraisal problem as to the identification of the real estate, effective date of the value estimate, the identification of the property rights being appraised, and the type of value being sought. Once this has been accomplished, the appraiser embarks upon a collection of data and analysis of factors which affect the market value of the subject property. This includes area and neighborhood analysis, site and improvement analysis, highest and best use analysis, and the application of the available approaches to value, i.e., the Cost Approach, the Sales Comparison Approach, and the Income Capitalization Approach. Finally, the approaches utilized are combined in the reconciliation to determine the final value estimate.

The Inspection

An appraiser's duty is to inspect the property being appraised to ascertain the true status of that property. He or she must actually see features, such as the number of bedrooms, bathrooms, the location, and so on, to ensure that they really exist and are in the condition a reasonable buyer would expect them to be. The inspection often includes a sketch of the property, ensuring the proper square footage and conveying the layout of the property. Most importantly, the appraiser looks for any obvious features - or defects - that would affect the value of the house.

Once the site has been inspected, an appraiser uses two or three approaches to determining the value of real property: a cost approach, a sales comparison and, in the case of a rental property, an income capitalization approach.

Cost Approach

The Cost Approachis based on the proposition that an informed purchaser would pay no more than the cost of producing a property with the same utility as the subject property. In this approach, the site is valued as though vacant by analyzing sales of similar sites on the market. The cost of replacing the subject's improvements is estimated at current cost. From this replacement cost new is subtracted the estimated accrued depreciation, or diminished utility. The estimated site improvements are then combined as an indication of value.

Sales Comparison Approach

The Sales Comparison Approachis based on the proposition that an informed purchaser would pay no more for a property than the cost of acquiring a property with the same utility. This approach involves the analysis and comparison of market transactions; i.e., the prices being paid for similar properties, prices asked by owners, and offers made on prospective comparable properties to arrive at an indication of what the property would have sold for had it been identical to the subject. Typically, a common denominator or unit of comparison is found such as the sale price per square foot or a gross rent multiplier, which is the relationship between the sale price and the gross rental income. The adjusted sale prices are then correlated into an indication of value for the subject.

Income Capitalization Approach

The Income Capitalization Approachis based on the assumption that there is a definite relationship between the amount of income a property will earn and its value. A number of appraisal principles form the basis of this approach with the principle of anticipation being particularly applicable. This principle affirms that value is created by the expectation of benefits to be derived in the future.

The Income Capitalization Approach is an appraisal technique in which the anticipated annual net income of the subject property is processed in order to arrive at an indication of value. Net income in the appraisal process is that income generated before payment of any debt service, and the technique of converting it to value is a form of discounting called capitalization. Capitalization involves dividing the net income by a rate which weighs such considerations as risk, time, interest on the capital investment, and recapture of the depreciating asset. The appropriateness of this rate is critical, and there are a number of techniques by which it may be developed.

Reconciliation

Reconciliation is the final step in the appraisal process. In the reconciliation, the appraiser considers the relative applicability of each of the approaches utilized, examines the range between value indications, and places emphasis on the approaches which appear to produce the most reliable and applicable solution to the specific appraisal problem. The purpose of the appraisal, the type of property, and the adequacy and reliability of the data is analyzed and these considerations influence the weight to be given to each of the approaches to value.