Appraisal Valuation Process Cost Approach III

Appraisal Valuation Process Cost Approach III

This post follows two others; "What Is An Appraisal" and "What Is the Appraisal Valuation Process Sales Comparison Approach", describing an appraisers initial planning and preparation for an appraisal and the first approach used to estimate value by comparing other similar homes.

The Cost Approach used to estimate a properties value can be used for any property but is better suited to new construction and special more unique properties where fewer comparable sales of properties exist such as, warehouse, schools, buildings of worship or government properties.  The goal is to estimate value based on cost of acquiring similar vacant land and constructing a similar building or improvement. 

There are four basic steps an appraiser performs.  First the appraiser estimates cost of construction based on either Reproduction cost; cost to duplicate the subject property exactly or Replacement cost; cost to build an equivalent improvement but not necessarily duplicate.  The later is generally used because it figures in current materials, building methods and technologies.  There are four methods of estimating reproduction or replacement costs and they are: The square foot method uses the cost per square foot of similar new construction and multiplies it times the square feet of the subject.  The unit-in-place method estimates current costs of individual building components.  The quantity survey method adds up the cost of each building material, installation costs, permits, builder profits.  With the index method, increase in construction cost ( in a given area) since the subject property was constructed is given an index number which is multiplied by the original cost of the subject to arrive at an estimate of value.  The square foot method is considered the most accurate.  

Next accrued depreciation is estimated (all depreciation that has taken place), there are three types of depreciation considered; physical obsolescence (wear and tear caused by use), functional obsolescence (out of date utility) and economic or external obsolescence (due to conditions or factors outside of the subject property) such as industrial zoning, airport noise, etc.

Accrued depreciation is deducted from the costs of construction to estimate the value of the improvement. 

Lastly, the land's value can be estimated.  Since land is not considered to depreciate the sales comparison approach can be used by finding similar parcels of land.  By adding values of these last two steps an appraiser arrives at an estimated value for a special purpose property using the cost approach. 

I have overly simplified this process to make reading a little easier.  For the purpose of this post, it is not necessary to go deep into detail.  Appraisers have a tough job and I only want to give the casually interested reader a brief outline of the process and approaches used by appraisers to estimate value in real estate.

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