Chapter 3 THE FORMAL APPRAISAL PROCESS CHAPTER TERMS AND CONCEPTS Appraisal process Effective date of value Appraisal report Exposure time Assignment conditions Extraordinary assumption

Client Form report Contractual conditions Hypothetical condition Cost approach Income approach Credible appraisal

Intended use Definition of the appraisal Intended users problem Letter report 2 CHAPTER TERMS AND CONCEPTS Limiting conditions

Sales comparison approach Market data Scope of work Market exposure Self-Contained Appraisal Report Market value Subject property Marketing time

Summary Appraisal Report Narrative report Type of value Reconciliation Value in exchange Restricted Use Appraisal Report Value in use

3 LEARNING OUTCOMES 1. Explain the four steps in the appraisal process. 2. Name the six elements that define the appraisal problem. 3. Define the term scope of work. 4. Explain the difference between value in use and value in exchange. 5. Define the term market value, and explain how it differs from market price. 6. Outline the three approaches to value, and explain how they are used in appraisals.

THE APPRAISAL PROCESS AND USPAP The Appraisal Process Is Defined by USPAP USPAP must be followed by o Appraisers completing Federally Insured Transactions o Licensed or Certified Appraisers in Mandatory States o Most Professional Organizations require compliance with USPAP

CONFORMITY WITH USPAP REQUIRMENTS Standard 1 How an appraisal should be developed Standard 2 How an appraisal should be reported FOUR STEPS IN APPRAISAL PROCESS I. II. Identify the Appraisal Problem Identify Appropriate Solutions

III. IV. The Scope of Work Execute the Appropriate Scope of Work Report Findings and Conclusions Step 1: Identify the Appraisal Problem The elements to be identified 1. The client and any other intended users 2. The intended use of the appraisers opinions and conclusions 3. The type and definition of value 4. The effective date of the appraisers opinions and conclusions

5. The Subject of the Assignment and its relevant characteristics 6. Any assignment conditions RELEVANT CHARACTERISTICS Consider: Intended use of the appraisal and report What the appraiser finds out about the property, and What is important to the buyers of such property, as reflected by the market data 1. IDENTIFICATION of the CLIENT The client engages the appraiser o

The client defines the other intended users The clients name must be in file o the work Clients name does not have to be in report Three key points for intended users: Decision between client and appraiser at the engagement o Parties that are directly involved in appraisal o Only includes those to whom the appraiser must clearly communicate the results.

o 2. INTENDED USE Different Users Have Different Needs Federally Insured Institutions Require USPAP Compliance Type of Report Self Contained Summary Restricted Use Report 3. TYPE & DEFINITION OF VALUE Opinion of Market Value Most common type Must be agreed on at the beginning of assignment

Requires an estimate of Exposure Time. o time to sell prior to effective date Client may wish to have a marketing time o time to sell after the effective date 4. EFFECTIVE DATE OF APPRAISAL Must be Agreed on by the Appraiser and Client at the start. Three Possible Dates The effective date of value

2. The date of inspection 3. The date of the report 1. Date of Value May Be: Retrospective In past o Prospective In future o Current o 5. THE SUBJECTS RELEVANT CHARACTERISTICS Identification of Subject Address Legal Description Tax I.D. Number

Map reference Survey Property sketch Photographs Personal property identified Property rights appraised o o o Fee simple Leased fee Other Partial Interests 6. ASSIGNMENT CONDITIONS

1. USPAP 2. Supplemental Standards 3. Jurisdictional Exceptions 4. Extraordinary Assumptions 5. Hypothetical Conditions 6. Regular Assumptions and Conditions 7. Contractual Conditions STEP 2: IDENTIFY APPROPRIATE SOLUTIONS 1. Defining the Scope of Work

The extent of identification of the property The extent of property inspection The type and extent of data researched, and The type and extent of analysis employed to reach a conclusion. EXTENT OF IDENTIFICATION How much Identification of a Property is Necessary? Legal Descriptions Address Tax ID numbers Ground and Aerial Photographs Property Rights? Fee Simple

Leased Fee Leasehold Other EXTENT OF PROPERTY INSPECTION How Extensive the Viewing of the Subject Property? Interior and exterior viewing? Drive-by appraisal? Desktop appraisal? Appraisal must be Credible Appraiser must have adequate information from other sources for a drive by or desktop appraisal Appraisers view a property

Home Inspectors Inspect TYPE & EXTENT OF DATA RESEARCHED 19 STEP 3. EXECUTE SCOPE OF WORK 1. The Sales Comparison Approach to Value 2. The Cost Approach to Value 3. The Income Approach to Value STEP 4. REPORT FINDINGS & CONCLUSIONS 1. Three Types of Written Reports a.Self-Contained Appraisal

Report The report describes the material and analyzes to solve the problem b.The Summary Appraisal Report The report summarizes the material and analyzes to solve the problem

c. The Restricted Use Report States d.With the answer to the problem the Minimum required content FORMATS OF APPRAISAL REPORTS 1. Letter Report

Word Processed 2. The Form Report Generated by appraisal software 3. The Narrative Report Generated on narrative report generating software and/or word processed

TYPES OF VALUE Assessed value Leased value Book Value Liquidation value

Capitalized value Listing value Cash value Loan value Depreciated value Market value

Economic value Nuisance value Exchange value Potential value

Face value Rental value Fair value Salvage value Going concern value Use Value

Inheritance tax value Value in foreclosure Insurance value Value in place Each type of value needs its own definition 23

VALUE IN USE VS. VALUE IN EXCHANGE Value in Use Value of an item or object to a particular user Value in Exchange Value of a thing to people in general DEFINING MARKET VALUE Market Value What a property should normally sell for, assuming a willing buyer and a willing seller.

Market Value for Federally-Related R.E. Transactions .the most probable price which a property should bring in a competitive and open market under all conditions requisite to a fair sale, the buyer and seller each acting prudently, knowledgeably, and assuming the price is not affected by undue stimulus. CRITERIA FOR MARKET VALUE Conditions 1. Typical Motivation 2. Informed Parties 3. Market Exposure

4. Terms of Sale 5. No Sales Concessions 26 PRICE VS. VALUE 1. Factors Influencing Price as Distinguished from Value: a.Unusual financing b.Distress sale c. Forced purchase d.Uninformed parties e.Misrepresentation of facts

CLASSICAL APPROACHES TO VALUE 1. The Sales Comparison Approach to Value 2. The Cost Approach to Value 3. The Income Approach to Value STEPS for SALES COMPARISON APPROACH 1. Investigate Comparable Sales 2. Compare Sales to Subject Property 3. Adjust for Differences 4. Arrive at Value for Subject STEPS IN THE COST APPROACH 1. Estimate Land Value as if Vacant 2. Estimate the Cost to Build the Existing

Structure 3. Estimate the Amount of Accrued Depreciation, or Loss in Value 4. Subtract Accrued Depreciation 5. Add Land Value to the Depreciated Cost of Improvements Example of Cost Approach 31 Steps in the Income Approach 1. Estimate Market Rent and Potential Gross Income 2. Estimate Annual Vacancy and Collection

Loss 3. Subtract to Arrive at Effective Gross income 4. Subtract Annual Operating Expenses from Effective Gross to Arrive at the Net Operating Income 5. Decide on Capitalization Method and Rate 6. Capitalize Net Income into an Estimate (Opinion) of Value EXAMPLE OF INCOME APPROACH The appraiser selected the direct capitalization method and a 10% capitalization rate, based on the market rate analyzed. SUMMARY

The steps in the appraisal process are to: 1. Identify the appraisal problem to be solved 2. Identify appropriate solutions 3. Execute the appropriate scope of work 4. Report the findings and conclusions reached SUMMARY The six elements of defining the appraisal problem are: 1. 2. 3. 4.

The client and any other intended users The intended use of the appraisal and report The type and definition of value The effective date of the appraisers opinions and conclusions 5. The subject of the assignment and its characteristics 6. Any assignment conditions SUMMARY The scope of work includes four issues: 1. The extent of property identification 2. The extent of property inspection 3. The type of data researched and the extent of research

4. The types and extent of data analyses used SUMMARY Three approaches are used for valuing real estate: Sales Comparison / Cost / Income 1. The sales comparison approach is often the most reliable. 2. The cost approach estimates the value of a property by adding its land value to the estimated cost to replace the existing structures less depreciation. 3. The income approach compares the income-producing capability of the property with that of properties that have been sold.

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