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  #1  
Old 04-27-2010, 11:16 AM
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Default Difference between Extraordinary Assumption and Hypothetical Condition!

Whats the difference between an extraordinary assumption and a hypothetical condition? (Any sangs or jingles to help remember?)

Dictionary of Real Estate Appraisal 5th Edition

Extraordinary Assumption: An assumption, directly related to a specific assignment, which, if found to be false, could alter the appraiser's opinions or conclusions. Extraordinary assumptions presume as fact otherwise uncertain information about physical, legal or economic characterisitcs of the subject property; or about conditions external to the property such as market conditions or trends; or about the integrity of data used in analysis (USPAP 2010-2011 ed.)

Hypothethical Condition: That which is contrary to what exists but is supposed for the purpose of the analysis. Hypothetical conditions assume condition contrary to known facts about physical, legal or economic characteristics of the subject property; or about conditions external to the property, such as market conditions or trends; or about the integrity of data used in analysis (USPAD 2010-2011 ed.)


This has been something that I have seen vary from appraiser to appraiser and just trying to find a consensus.

1) An appraisal is for a prospective value of a proposed building, is the proposed building a EA or HC?

2) THe proposed building is never constructed by the prospective date? Would this apply to EA, HC or both?

3) The site of the proposed building will be constructed on a landfill and unsure of if any contamination exists? EA or HC?


All opinions, stories and suggestions greatly appreciated!

Thank you!
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Old 04-27-2010, 11:49 AM
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A) = Hc
B) = Hc
C) = Ea & Hc
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  #3  
Old 04-27-2010, 12:35 PM
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An EA is something you think exists, an HC is something you know does not.

An EA would be involved in a prospective value of proposed construction - as of the effective date of the value, you think the subject will exist as you describe.

An HC is involved in a current valuation of proposed construction as if it was complete - as of the effective date of value, you know the property does not exist as you describe.

These basic principles apply to all of your scenarios.

EA - "It" exists (or you think it will or did).

HC - "It" does exist (but your are pretending it does not) OR "it" does not exist (but you are pretending it does).

An EA must be reasonable. Lacking any evidence otherwise, I'm not sure making an EA that a site that was formally used as a landfill is NOT contaminated is reasonable. Lacking ANY evidence otherwise, making an EA that a site that was formally used as a landfill has a least SOME contamination is reasonable. But that is my opinion regarding what is reasonable and what is not.

An HC does not have the same reasonableness requirement. We can basically "pretend" anything exists when we know it does not (or vice versa) so long as we clearly disclose those facts. (Unless you are pretending land in Arizona is oceanfront...)
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Last edited by Ken B : 04-27-2010 at 12:50 PM. Reason: I guess some people have more imagination than I. :)
  #4  
Old 04-27-2010, 12:44 PM
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George Hatch George Hatch is offline
 
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Sorry, but a nursery rhyme or advertising slogan isn't going to cut it on this one.

You would use an EA if you reasonably believe, but are not certain, that a certain situation is in effect. The operative word in the term is "assumption". We make assumptions based on what we believe to be true.

You would use an HC if you know for a fact the situation is not in effect but need to come up with a value "as if" it were in effect. The operative word in this term is "hypothetical". We use hypotheses to bridge the gap between a known "as is" and a possible "as if".

----------------------------

An EA is an additional assumption that goes along with all the standard assumptions that we commonly make in our work. An example of those standard assumptions would include an assumption that there are no hidden or unapparent deficiencies that would be of effect on the value or marketability of a property. The reason we use the term "extraordinary" in the term EA is because the assumption being referred to goes beyond the standard and common assumptions and is an atypical assumption that is specific to this assignment.

All assumptions all share the same basis - we believe them to be in effect and if they aren't then it might have a corresponding effect on our work. We aspire to state most or all of the assumptions we use because we want to provide notice of the limitations that go with them. More assumptions = more limitations.

An example of the use of an EA in an appraisal could look like this:

Quote:
"I was told by the property owner that this room addition is permitted and as far as I can tell that information is accurate. However, I didn't check for myself so I can't say that I actually *know* about the permits. Therefore this appraisal is based in part on the specific assumption that the information provided about those permits is substantially accurate. If that assumption proves to be incorrect it could have an effect on the rest of my appraisal."
Hypothetical Conditions are completely different in that they involve the insertion of an element or condition into our appraisal problem that we know for a fact does not currently exist. Of course, in order for the use of an HC in an appraisal to be meaningful to the intended users it has to meet the criteria for usage of an HC, which are laid out for appraisals in SR1-2.g:

Quote:
Comment: a hypothetical condition may be used in an assignment only if:

- use of the hypothetical condition is clearly required for legal purposes, for purposes of reasonable analysis or for purposes of clarification;

- use of the hypothetical condition results in credible analysis; and

- the appraiser complies with the disclosure requirements set forth in USPAP for hypothetical conditions.
Note that all 3 of the above criteria must be met.

Let's say my client asked me to provide a market value opinion for a property in Arizona based on the hypothesis that it had an ocean view because California had fallen into the ocean. The use of a hypothetical "As If the lot had an ocean view" would fail tests #1 and #2 above because I would be unable to characterize the use of that hypothesis as being clearly required, and because as an impossible "subject to" it could generally not result in a credible analysis.

Inasmuch as test #1 above includes the qualifiers "clearly required" or "reasonable analysis" or "clarification", I personally disagree with the notion that there is no "reasonable" requirement for the use of an HC. Your intended users - who are often not synonymous with your client - would have to have a "reason" to consider the use of an HC in an appraisal to be meaningful to them.

Last edited by George Hatch : 04-27-2010 at 12:50 PM.
  #5  
Old 04-27-2010, 12:52 PM
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Quote:
Extraordinary Assumption: An assumption, directly related to a specific assignment, which, if found to be false, could alter the appraiser's opinions or conclusions. Extraordinary assumptions presume as fact otherwise uncertain information about physical, legal or economic characterisitcs of the subject property; or about conditions external to the property such as market conditions or trends; or about the integrity of data used in analysis (USPAP 2010-2011 ed.)
Involves information that you are not 100% certain about...Does that settlement crack affect structural integrity of house? Interior condition of a house on driveby appraisal? Is that subdivision lot buildable?

Quote:
Hypothetical conditions assume condition contrary to known facts about physical, legal or economic characteristics of the subject property; or about conditions external to the property, such as market conditions or trends; or about the integrity of data used in analysis (USPAD 2010-2011 e (USPAD 2010-2011 ed.)
You know the truth about something and you are employing a condition for which you know not to be true...Appraising a house as though it has already been constructed when you know that it has not. Appraising a parcel of land with 2 houses as though it has already been subdivided into two lots with 2 houses when it has not. Appraising contaminated land as though it was never contaminanted.
  #6  
Old 04-30-2010, 04:08 AM
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Thanks everyone for the great comments! The examples, reasoning, etc make it easy to follow and understand!

Thanks
  #7  
Old 04-30-2010, 06:42 AM
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USPAP 2010-11 FAQ 180 + 85
FAQ 180. EXTRAORDINARY ASSUMPTIONS COMPARED TO HYPOTHETICAL CONDITIONS
Question: How does an extraordinary assumption differ from a hypothetical condition? Can you give some examples of extraordinary assumptions that might apply in a real property appraisal?

Response:
An extraordinary assumption is defined as:

an assumption, directly related to a specific assignment, which, if found to be false, could alter the appraiser’s opinions or conclusions.
Comment: Extraordinary assumptions presume as fact otherwise uncertain information about physical, legal, or economic characteristics of the subject property; or about conditions external to the property, such as market conditions or trends; or about the integrity of data used in an analysis.

A hypothetical condition is defined as:
that which is contrary to what exists but is supposed for the purpose of analysis.
Comment: Hypothetical conditions assume conditions contrary to known facts about physical, legal, or economic characteristics of the subject property; or about conditions external to the property, such as market conditions or trends; or about the integrity of data used in an analysis.

Appraisers may need to use extraordinary assumptions or hypothetical conditions in performing an assignment. When used in an assignment they become part of the givens in that assignment and have a significant effect on the appraiser’s opinions and conclusions.
The difference between whether a condition is an extraordinary assumption or a hypothetical condition rests on what the appraiser knows about the condition in question.

If an appraiser cannot verify a certain condition that is critical to the valuation, but which he has no reason to doubt is true, then the condition is an extraordinary assumption. The appraiser must comply with appropriate Standards having to do with both the development and reporting of the condition as an extraordinary assumption.

If, on the other hand, an appraiser is asked to use a condition he knows to be false, but which is necessary for the analysis, a hypothetical condition can be used. Appraisers must clearly distinguish false conditions from those other assumptions or conditions that are believed or taken to be true.

To properly distinguish these two, the false conditions are called hypothetical conditions. The best way to distinguish the two is to determine whether the condition in question is known to be false.

If, as of the effective date of the appraisal, the condition is known to be false, then it is a hypothetical condition.

If, as of the effective date of the appraisal, the fact of the condition is unknown and it is reasonable to believe that the condition is true, then the condition is an extraordinary assumption.

The following assumptions would be extraordinary if their use had a significant effect on the
appraiser’s opinions and conclusions:
1. Appraising proposed improvements, such as new construction or additions, as of the date of completion (a prospective date of value).
2. Appraising a property as if it were free of environmental contamination when it is not known to be contaminated.
3. Appraising a site as if sewer were available when the fact is unknown and there is no apparent evidence that the sewer is not available.
4. Appraising a site under an assumed zoning when the zoning is not known and there is no evidence that the assumed zoning is not possible.
5. Appraising irrigated farmland on the premise that the water supply is adequate for irrigated crop production, absent any evidence that the supply is not adequate.
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Last edited by Mike Kennedy : 04-30-2010 at 06:48 AM.
  #8  
Old 04-30-2010, 08:19 AM
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Quote:
Originally Posted by tmh1982 View Post
Whats the difference between an extraordinary assumption and a hypothetical condition? (Any sangs or jingles to help remember?)

Dictionary of Real Estate Appraisal 5th Edition

Extraordinary Assumption: An assumption, directly related to a specific assignment, which, if found to be false, could alter the appraiser's opinions or conclusions. Extraordinary assumptions presume as fact otherwise uncertain information about physical, legal or economic characterisitcs of the subject property; or about conditions external to the property such as market conditions or trends; or about the integrity of data used in analysis (USPAP 2010-2011 ed.)

Hypothethical Condition: That which is contrary to what exists but is supposed for the purpose of the analysis. Hypothetical conditions assume condition contrary to known facts about physical, legal or economic characteristics of the subject property; or about conditions external to the property, such as market conditions or trends; or about the integrity of data used in analysis (USPAD 2010-2011 ed.)


This has been something that I have seen vary from appraiser to appraiser and just trying to find a consensus.

1) An appraisal is for a prospective value of a proposed building, is the proposed building a EA or HC?


2) THe proposed building is never constructed by the prospective date? Would this apply to EA, HC or both?


3) The site of the proposed building will be constructed on a landfill and unsure of if any contamination exists? EA or HC?



All opinions, stories and suggestions greatly appreciated!

Thank you!
My red

Answers to your questions:

1) EA
2) EA
3) EA

(I guess, no consensus here)
  #9  
Old 04-30-2010, 08:49 AM
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This has been a bone of contention for all the years I have been teaching USPAP. In years past, there were about 6 questions on the exam for the 15 hour USPAP course dealing with this issue. Here is how I like to explain it.

Extraordinary Assumption. Something the appraiser believes to be true but if found to be false would allow the appraiser to change his/her opinion of value.

Hypothetical Condition. Something the appraiser KNOWS TO FALSE but is used for appraisal purposes. A typical situation would be appraising proposed construction. The property is presently a vacant lot but the appraiser assumes it is a completed house for appraisal purposes.

Both terms have rather lengthy definitions in on page U-3 beginning at line 76.

It's fun to do several illustrations during the class and then ask..."is this an extraordinary assumption or a hypothetical condition?". My favorite is...

My house out in Springs Ranch is a single family residence. If I appraised it as a brothel/casino which would I use? Seems the class remembers this illustration.

Another one...

You are appraising a house down in Florida and you have heard about Chinese drywall being a big issue. You don't think the house you are appraising was built with Chinese drywall but you want to cover yourself just in case. Would you use an assumption, extraordinary assumption, or a hypothetical condition?

Extraordinary Assumption, believed to be true.

Hypothetical Condition, known to be false.

And we go over it about half a dozen times until it finally sinks in.
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  #10  
Old 04-30-2010, 11:46 AM
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I just finished reviewing an appraisal which included full definitions of both extraordinary assumption and hypothetical condition as it applies to RE appraisal. On the same page, immediately following the two definitions, the appraisers state that they made the following "hypothetical assumption" in the appraisal. You can't make this stuff up!
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