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What is an appraisal?
A commercial property purchase is the largest,
single investment most business people will ever make.
Whether it's an owner-occupied property or an
investment property, the purchase of real property is
a very complex financial transaction that requires multiple
parties to pull it all off.
Most of the people involved are very familiar.
The Realtor is the most common face of the
transaction. The mortgage company provides the
financial capital necessary to fund the transaction.
The title company ensures that all aspects of the
transaction are completed and that a clear title
passes from the seller to the buyer.
So who makes sure the value of the property is in line
with the amount being paid? There are too many people
exposed in the real estate process to let such a
transaction proceed without ensuring that the value of
the property is commensurate with the amount being
paid.
This is where the appraisal comes in. An
appraisal, according to the Uniform Standards of
Appraisal Practice (USPAP), the industry bible, is an
unbiased opinion of what a buyer might expect to pay -
or a seller receive - for a parcel of real estate,
where both buyer and seller are informed parties. To
be an informed party, most people turn to a licensed,
certified, professional appraiser to provide them with
the most accurate opinion of the true market value of
their property.
The Inspection
So what goes into a real estate appraisal? It all
starts with the inspection. An appraiser's duty is to
inspect the property being appraised to ascertain the
true status of that property. The appraiser must
actually see features, such as the size of the
structure, the layout and quality of the interior
layout and finish, 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 property.
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
approach.
Cost Approach
The cost approach is the easiest to understand. The
appraiser uses information on local building costs,
labor rates and other factors to determine how much it
would cost to construct a property similar to the one
being appraised. This value may set the upper limit on
what a property would sell for, or it may not. Why
would you pay more for an existing property if you
could spend less and build a brand new home instead?
While there may be mitigating factors, such as
location, time needed to construct, cost of financing
construction and amenities, these are usually not
reflected in the cost approach.
Sales Comparison
Instead, appraisers rely on the sales comparison
approach to value these types of items. Appraisers get
to know the neighborhoods/market areas in which they
work. They understand the value of certain features to
the other business owners of that area. They know the
traffic patterns, the school zones, the busy
throughways; and they use this information to
determine which attributes of a property will make a
difference in the value. Then, the appraiser
researches recent sales in the vicinity and finds
properties which are ''comparable'' to the subject
being appraised. The sales prices of these properties
are used as a basis to begin the sales comparison
approach.
Using knowledge of the value of certain items such
as square footage, construction materials, and
interior finishes (just to name a few), the appraiser
adjusts the comparable properties to more accurately
portray the subject property. For example, if the
comparable property has a brick exterior and the
subject does not, the appraiser may deduct or raise
the value of such a finish from the sales price of the
comparable property depending on the construction
material utilized on the subject property.
In the case of income producing properties -
apartments or offices for example - the appraiser may
use a third approach to valuing the property. In this
case, the amount of income the property produces is
used to arrive at the current value of those revenues
over the foreseeable future.
Reconciliation
Combining information from all approaches, the
appraiser is then ready to stipulate an opinion
of market value for the subject property. It is
important to note that while this amount is probably
the best indication of what a property is worth, it
may not be the final sales price. There are always
mitigating factors such as seller motivation, urgency
or ''bidding wars'' that may adjust the final price up
or down. But the appraised value is often used as a
guideline for lenders who don't want to loan a buyer
more money that the property is actually worth. The
bottom line is: an appraiser will help you get the
most accurate property value, so you can make the most
informed real estate decisions.
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