How Accurate is Your Commercial Real Estate Appraisal?

TASA ID: 1447

The role of the appraiser is to produce a credible estimate of market value.  Investigate, disclose, describe, analyze and report.

This article originally appeared in the Spring 2013 edition of the Hunt Newsletter.  It is reprinted with permission.  All rights reserved.  Copyright 2013

Just how accurate is the appraisal that has been presented to you?  The answer is, "It depends."  The role of the appraiser is to produce a credible estimate of market value.  It must be accurate and reliable.   The intended use drives the type of work, level of detail and analysis along with the type of report used to convey the market value estimate.   Market value, in simple terms is the most probable selling price a willing buyer would pay to a willing seller with both parties being duly informed and neither party acting under duress. In preparing an appraisal and the subsequent report, the appraiser should investigate, disclose, describe, analyze and report.  In all of this, the appraiser must consider anything that could affect the value of the property including legal, economic, political and market conditions.

There are two versions of an appraisal - complete and summary.  The complete version has all of the information, analysis, and conclusions.  The summary version is an abbreviated format.  Which report is appropriate is based upon the intended use and scope of the appraisal.

The Complete Appraisal Report should contain all aspects of the appraisal such the identification of the property, purpose and function of the appraisal, photos, site and building description, descriptive economic and demographic information, area description, neighborhood description, and highest and best use of the property.  

There are three approaches to valuing property:   They are the Cost Approach, Sales Comparison Approach and Income Approach.  These approaches are followed by the Reconciliation of Values and the Final Value Estimate.  The Income Approach to value is relied upon as the most probative approach in estimating the value of an income producing property. The courts have consistently held that the Income Approach is to be relied upon in estimating the market value of income producing properties, especially in tax certiorari cases, and lenders and investors place much emphasis on this approach concerning properties with substantial tenant bases.  In classes of properties that are considered "owner/user," the Sales Comparison is usually more relied upon by the lenders.  The Cost Approach is most normally used as a cross check, and it acts as an upper limit of value and is useful in determining highest and best use. 

Here are some of the important things to look at carefully:

1.  Credentials, character and ethics of the appraisers.  The appraiser should have at least 5 years' experience for the simple commercial appraisals (a small mixed use property) and more than 10 years for the upper end or complicated commercial appraisals.  Experience also means the appraiser mentored under or worked under an MAI or MAI equivalent appraiser.   Additionally, the appraiser must demonstrate competence geographically. 

2.  Any hypothetical or extraordinary assumptions used in the appraisal.  This could be something such as value upon completion of a building on vacant land, for example.  The appraisal should prominently display either of these, and the reader should take careful note. 

3.  Highest and Best Use - A summarized definition would be that legal, reasonable, physically possible and financially feasible use that would give the property its highest return or value. Appraising a property based upon its highest and best use could give a substantially different value indication than appraising the same property, "as is."

4.  Intended Use/User - this is the user the appraiser intends the appraisal report to be used by and what the intended use is.  The intended use drives the scope of work within the appraisal.

5.  Scope of appraisal is necessary for it describes the level and depth of research and analysis.  Scope of work includes the degree to which the property is inspected and identified, the extent of research into physical or economic factors that could affect the property, the extent of data research, and the type and extent of analysis applied to arrive at opinions or conclusions.

6.  Subject property identification and property description:  Not only double check the street address, but also the tax or parcel ID #.  It should also include the type of building, square foot area, date of construction, quality of construction, effective age,  # of rooms, rent rolls, any other relative amenities, and that appropriate market data comparables were utilized.  

7.  At the end of the appraisal, the appraiser will reconcile what was done, what approaches were used and what the final value conclusion is.  In that section, the reasoning and the final value conclusion will be summarized.

8. Did the appraiser do anything "out of the ordinary" or something that deviated from common and acceptable appraisal practices? 

9.  The appraiser must not be biased and must certify that (s)he has no interest, present or prospective in the results of the appraisal.

In the final analysis, it is the mandate of the appraiser to produce a logical and defendable estimate of market value. When all appraisers involved strive for this goal, the differences between two appraisals should not be significant.

This article discusses issues of general interest and does not give any specific legal or business advice pertaining to any specific circumstances.  Before acting upon any of its information, you should obtain appropriate advice from a lawyer or other qualified professional.

This article may not be duplicated, altered, distributed, saved, incorporated into another document or website, or otherwise modified without the permission of TASA.

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