Economic obsolescence

[KD247]

Not necessarily can it all be accounted for within the land value-I know because I just finished one where the land did not account for all of it. ...

By definition, all Economic Obsolescence should be incorporated into the Site Value. If the Economic Obsolescence occurred between the time of the market data and the time of the appraisal, that market data requires a time adjustment. If the Economic Obsolescence reflects the difference between two sites with different economic forces, then the market data requires a location adjustment. (Making the adjustment after estimating the Site Value would be similar to completing the appraisal analysis, filling out the URAR form, and then making an additional adjustment to the final opinion of the subject's value.)

The Cost Approach doesn't examine the question, "Why don't the buyers scratch plans to purchase the subject property and start the process of building a similar house?" It does explore the question, "If the buyers had hypothetically purchased a site and built a new similar house, (hypothetically already completed but at today's costs) how would that choice compare with the purchase of the subject property?"

(Obviously, I'm assuming that we're limiting this conversation to the single-point-in-time URAR-type of Cost Approach. I'm here to learn, not to preach, so I welcome any criticisms of my opinions!)

 

[CANative]

By definition, all Economic Obsolescence should be incorporated into the Site Value. If the Economic Obsolescence occurred between the time of the market data and the time of the appraisal, that market data requires a time adjustment. If the Economic Obsolescence reflects the difference between two sites with different economic forces, then the market data requires a location adjustment. (Making the adjustment after estimating the Site Value would be similar to completing the appraisal analysis, filling out the URAR form, and then making an additional adjustment to the final opinion of the subject's value.)

The Cost Approach doesn't examine the question, "Why don't the buyers scratch plans to purchase the subject property and start the process of building a similar house?" It does explore the question, "If the buyers had hypothetically purchased a site and built a new similar house, (hypothetically already completed but at today's costs) how would that choice compare with the purchase of the subject property?"

(Obviously, I'm assuming that we're limiting this conversation to the single-point-in-time URAR-type of Cost Approach. I'm here to learn, not to preach, so I welcome any criticisms of my opinions!)

That is not what the 13th Edition says.

 

[J Grant]

Using these other two approaches as a means to develop a value that stands in contrast to market value, by (at least in the case of the cost approach) removing easily manipulated supposed inputs and outputs makes far more sense in my opinion (and after five years I'll admit - only my opinion).

23 Degrees...I 100% agree with this, so it's not only your opinion!

 

[KD247]

That is not what the 13th Edition says.

You're right. Bad choice of words on my part. I probably should have said "by tautology" instead of "by definition".

I wish I had access to the latest edition of The Appraisal of Real Estate. In the past, there has been a disconnect between the concept of external obsolescence and the Cost Approach on the URAR form. That doesn't mean that the concept of external obsolescence shouldn't be used to explain value differences due to market differences over time or value differences between properties with different external influences. But, the Cost Approach section of the URAR doesn't incorporate comparisons, it deals only with the subject property at a specific point in time.

We all agree that depreciation only affects improvements. Therefore, any depreciation due to external obsolescence must be attributed 100% to the improvements. But, we're using an estimation of current site value at a specific point in time, with no consideration for what the market was like yesterday, what it will be like tomorrow, or what the value of the site would be if it wasn't affected by the noxious odors of the adjacent chemical plant.

So, say the site is available for sale. Would buyers ignore the value impact of external problems, or would they adjust their price accordingly? Presuming that buyers would only partially adjust their price assumes an un-knowledgeable buyer. Presuming that the external problem impacts value at a time other than the present precludes the concept of present site value.

So again, what would be the justification for entering anything but the present site value on the URAR? And, under what circumstances would the present value of a site not reflect all current external influences?

 

[KD247]

A cost approach for a new or proposed construction SFR is not NECESSARY as long as there are adequate sales in the market.

But it does illuminate some aspects of value, as when it shows a developer's tremendous speculative expectations or a buyer's willingness to pay triple the price to avoid the hassle of building. (As in, "I don't care how much I pay because my large mortgage facilitates the cash flow and covers my downside risk.")

Economic obsolesence for residential property is caused by supply and demand factors. It's probably more useful to use the terms "economic obsolesence" for commercial property where external factors include local, national and international market conditions.

Very true, particularly when estimating the value of a future cash flow.

Depreciation caused by externalities (external obsolesence) can be attributed to the land, or improvements, or the land AND the improvements.

True, but not in the way that the concept is presented on the URAR, where the Cost Approach should be reconciled (differences explained and adjusted for) with the Sales Comparison Analysis.

 

[SANDY]

You're right. Bad choice of words on my part. I probably should have said "by tautology" instead of "by definition".

I wish I had access to the latest edition of The Appraisal of Real Estate. In the past, there has been a disconnect between the concept of external obsolescence and the Cost Approach on the URAR form. That doesn't mean that the concept of external obsolescence shouldn't be used to explain value differences due to market differences over time or value differences between properties with different external influences. But, the Cost Approach section of the URAR doesn't incorporate comparisons, it deals only with the subject property at a specific point in time.

We all agree that depreciation only affects improvements. Therefore, any depreciation due to external obsolescence must be attributed 100% to the improvements. But, we're using an estimation of current site value at a specific point in time, with no consideration for what the market was like yesterday, what it will be like tomorrow, or what the value of the site would be if it wasn't affected by the noxious odors of the adjacent chemical plant.

So, say the site is available for sale. Would buyers ignore the value impact of external problems, or would they adjust their price accordingly? Presuming that buyers would only partially adjust their price assumes an un-knowledgeable buyer. Presuming that the external problem impacts value at a time other than the present precludes the concept of present site value.

So again, what would be the justification for entering anything but the present site value on the URAR? And, under what circumstances would the present value of a site not reflect all current external influences?

Whoa there horsie- The one I just finished showed that during the bubble period site value was as high as $40k with cuurent sites selling for $10k so at least part of the economic obsolescence due to the general downtown in the economy was in the site value. The remaining part of the economic obsolescence was due to the fact that you cannot build a similar home for the remaining cost compared to the sca . Thus after accounting for the Eo present in the site value there remains some Eo in the improvements value indicator.

 

[SANDY]

Ok time for feeble attempt to herd the cats.

Assume client requires cost approach for SFR.
Assume ECONOMIC OBSOLESCENCE is significant due to general economic downturn such as what we have just experienced ie not due to plant closing or specific economic condition only attributable to neighborhood, marketing area

Assume you have the standard cya addendum language in CA stating your not relying on the Ca for your value opinion.
Assume the subject improvements are over 2 years old.

IE no wiggling bullshat!

Question- Do you include in your CA a specific number for Economic obsolescence or not?

Automatic respect for direct answers. Teach the trainee opportunity!

WWMPD-what would my peers do!

Feel free to apply your vast superior experience and prepped state certified exam completion designation and appraisal institute definitions search in your responses!

 

[KD247]

... Question- Do you include in your CA a specific number for Economic obsolescence or not? ...

In the Cost Approach section of the form, no. In your comments, indicate that the Opinion of Site Value reflects the current value of the site, based on analysis of comparable sales and listings. If you wish, you can provide the details showing how you came up with the site value, including support for negative time adjustments due to a declining market. (It's not a bad idea to include the term External Obsolescence in your comments and explain that external physical and economic factors are considered in the Opinion of Site Value. At least then the reader will see that you considered the issue of External Obsolescence.)

Unfortunately, there's no uniform opinion and many reviewers and underwriters automatically think Deteriorating Market = Loss of Value Due to Economic Obsolescence = Depreciation of Improvements. If you happen to be working for someone who doesn't think it through a bit further (Wouldn't the present site value reflect the market conditions?), it may be easier to go with the flow and make something up that may be logically incorrect but isn't too misleading. There's plenty of wiggle room available because the Cost Approach isn't very precise and is usually more of an explanation than a calculation of value. I wouldn't consider it an abandonment of your standards if you have to bend a bit to fulfill the practical requirements of your client.

 

[SANDY]

In the Cost Approach section of the form, no. In your comments, indicate that the Opinion of Site Value reflects the current value of the site, based on analysis of comparable sales and listings. If you wish, you can provide the details showing how you came up with the site value, including support for negative time adjustments due to a declining market. (It's not a bad idea to include the term External Obsolescence in your comments and explain that external physical and economic factors are considered in the Opinion of Site Value. At least then the reader will see that you considered the issue of External Obsolescence.) How many time adjustments have you seen in any appraisal CA? Do you do it? I doubt it. Me thinks you talk a good theoretical game but can you honestly say you use and explain time adjustments for the site value in your CA? I highly doubt it but if you want to post for all to see that you actually do it-I'll take your word for it. For the record-I have done easily a thousand reviews, seen many different mentors train many appraisers and performed nearly 4 thousand appraisals myself over 16 years and paid for over 25 appraisals on various properties I have bought and sold over the last 30 years or so and I have never seen it in the cost approach, but what do I know-I'm just a trainee!

Unfortunately, there's no uniform opinion and many reviewers and underwriters automatically think Deteriorating Market = Loss of Value Due to Economic Obsolescence = Depreciation of Improvements. If you happen to be working for someone who doesn't think it through a bit further (Wouldn't the present site value reflect the market conditions?), it may be easier to go with the flow and make something up that may be logically incorrect but isn't too misleading. There's plenty of wiggle room available because the Cost Approach isn't very precise and is usually more of an explanation than a calculation of value. I wouldn't consider it an abandonment of your standards if you have to bend a bit to fulfill the practical requirements of your client.

Answer me!

 

[Meandering]

First all of this bs depends on how you are arriving at your "cost-new"

Are you using Marshall and Swift tables?

Some other source of tables?

Or are you actually comparing new spec homes to the subject to derive a "cost-new"?

There is a difference, and it will vary substantially if there are no new homes being built in an area or if there are many new homes being built in an area.

So before any differences between new and resale can be addressed, you need to address how you are arriving at the costs of "new".

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