One of the most important aspects of any real estate negotiation is an appraisal. No real estate investor or house buyer would want to spend money on a property with no value. This is why valuation is crucial.
A real estate appraisal helps to determine the current worth of an asset. To quantify the benefits and obligations resulting from real estate ownership, the value of the real estate property must be provided.
It is not a property’s true worth. However, it is a third party’s fair, unbiased estimate of worth based on a transaction conducted at arm’s length. It provides the appraiser’s assessment of the most likely price or value in a market with healthy competition.
This post will help you understand property appraisal and the different valuation approaches/methods. But first, let’s look at the definition of estate appraisal.
What is Real Estate Appraisal
A real estate appraisal, also known as property valuation, is the process of assessing a property that is up for sale. Also, it’s a procedure that’s carried out that enables an investor to obtain a second opinion from a neutral party regarding the market worth of a specific piece of property.
There are a variety of reasons why appraisals are necessary. These include appraisals for purchases and sales, transfers, tax assessments, expropriations, settlements of inheritances or estates, and investments.
But mostly, in every real estate transaction involving any kind of external funding, whether a bank loan or other capital, a property appraisal is required to ascertain the worth of the land or building to be purchased.
This is to help prevents financial institutions like banks from lending borrowers more money than the value of their houses is worth.
A real estate appraisal is conducted by an inspector, appraiser, or real estate agent, and he/she must be certified.
During the valuing process, the appraiser must take into consideration factors that can have a great impact on the value to accurately determine the worth of the property. And these factors include economic, social, and environmental developments, as well as governmental restrictions or laws.
Methods of Real Estate Appraisal
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Comparison Approach
This is also called the sales approach. It is the method used to value residential properties. It is the process where the appraiser compares the subject property to similar or comparable properties that have recently sold in the neighborhood.
This assessment process should use at least three or four comparables. The location, which may have a significant impact on a property’s market value, is likely the most crucial factor to take into account when choosing comparables, along with the size and other similar characteristics.
The appraiser takes into account the variations between those properties and the property that is to be appraised and identifies what is likely to be the price.
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Cost Approach
This approach is typically employed when assessing new buildings or properties. The appraiser inspects the property, noting the kind and caliber of the materials used for construction, and then calculates the cost of replacing the property using similar materials.
This method is helpful when valuing a sort of property that is rarely sold—schools, churches, hospitals, and public buildings are a few examples.
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Income Approach
This approach is based on the correlation between the rate of profit the potential investor needs and the net income the property generates. It is also known as the income capitalization approach.
It is used for commercial and rental establishments—assets that are intended to create revenue, including office parks, retail establishments, and residential structures. For this technique, the current and projected revenue generated by a property will be taken into account by the appraiser.
If the subject property can be projected to generate future revenue and if its expenses are regular and predictable, the appraiser will establish an average yearly, monthly, or net income for the property by deducting expenditures from income and dividing it by the capitalization rate—the expected rate of return.
Conclusion
Real estate is often valued before it is sold or when you want to refinance the mortgage on your home to determine its value based on cost, the income it produces, and its fair market value (FMV) in comparison to other assets of a similar nature. By understanding how appraisal works, you can make informed decisions that can get you a better deal on your desired property.
