A MultiFamily Question on Adjustments

[The Warrior Monk]

The underwriter is of the opinion that adjustments for baths, square footage, location etc are necessary ....

I have no idea what your analysis looks like or what it was based; I'll just assume that you did it correctly.

In that case, if the underwriter's believes something different, I would require the underwriter to provide support their contention. Most of the time it is simply a case of that's what they're used to seeing, with no other basis.

 

[Mztk1]

You know, I have never thought of making a monthy rent adjustment on the grid and I don't think I would do it that way for three reasons:

1. It seems antithetical to appraising where we break things down into their parts and adjust separately. If I were appraising for a sale and the price per square foot of the subject was $150, it would be akin, in a way, of simply adjusting my comps to that number and omitting the other adjustments. It runs the risk of being misleading because the number of adjustments is an indication of how similar your comps are to the subject, and implication can be that they are a lot more similar than they really are; and

2. In a 1 to 4 family property, I think that sales are a better indicator of value over the income approach as these houses do not typically have the big investor guys buying them, but often a potential owner occupant, plus,

3. My rental data just ins't that good. I have data from the MLS, and I have lease dates, but sometimes they are rented low for the sake of good tenants, other times low for long term tenants, sometimes high. One to four family houses are often rented with personal biases and preferences involved that affect rent, and any estimate of market rent is bound to be less accurate. It is not like the commercial reports I've been involved with, where the lessors and lessees are very sophisticated and tuned in to a more established rental market. In the latter, rent is purely a matter of business.

When I appraise two to four family residential properties I extract my adjustments for bedrooms and baths and living area the same way I would for any residential property and watch where it lands. The income approach generally supports that number - but is often slightly lower.

It is an interesting concept, though. I suppose if you had exceptionally solid rental data, and knew there was little or no personal decisions in the rental amounts, it would work. It would just have to be well explained and I don't think I'd be comfortable doing it.

 

[Mike Boyd]

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Mr Mike Boyd ... measurement of specific adjustments within the market approach can be very difficult when you have limited data and particularly if the property is purchased for its ability to produce income. In my opinion measurement of square footage is tied to achievable rent and not some market derived square footage number which is difficult to determine at best. I certainly do see your point though, I just think the income adjustment best reflects the differences.

In that case, there would be no reason to include the market approach.

However, find a lender for a 2, 3 or 4 plex that will allow you to skip that approach. Do you not agree that a 3 bedroom, 2 bath unit will rent for more than a 2 bedroom, 1 bath unit? You are saying that you do not need to adjust for it in the market approach because you are adjusting for it in the income approach. Two separate approaches to value. Each has to stand on its own merits. In your final analysis you can give more weight to whichever approach you deem to be most relevant. BUT, each approach must be completed.

 

[SANDY]

Just take your one overall market rent based adjustment and assign each individual adjustment a percentage of the one big adjustment based on your estimate of the value contribution of each of the individual components. ie... since the client is insisting on the individual adjustments that you are not comfortable with due to lack of data for the individual adjustments, just back into them using the mrket rent adjustment that you are comfortable with. Add a cya statement that says market data is limited for supporting the individual line adjustments and therefore those adustments are made on the basis of the overall market rent data and an estimated assigned contributory value for each of the individual adjustments.
Don't know if I explained that very well. ie... use the data that you have confidence in to assign estimated contributory values to the individual adjustments-you will have the same value supported by what you know is the best way to do it and your client will also have it in the form they want it in.

 

[CANative]

One adjustment in the sale comparison presentation of the sale comps. The adjustment is inferred from the income approach. If you had a 2/1 oddball subject and the only sales you found were 3/2's you could still make the adjustment.

 

[PropertyEconomics]

In that case, there would be no reason to include the market approach.

However, find a lender for a 2, 3 or 4 plex that will allow you to skip that approach. Do you not agree that a 3 bedroom, 2 bath unit will rent for more than a 2 bedroom, 1 bath unit? You are saying that you do not need to adjust for it in the market approach because you are adjusting for it in the income approach. Two separate approaches to value. Each has to stand on its own merits. In your final analysis you can give more weight to whichever approach you deem to be most relevant. BUT, each approach must be completed.

Mr Boyd,
Im not saying that I dont adjust for the differences between a 2 br and a 3 br ... Im saying that the true value difference lies in the difference in rent these two are able to achieve ... Lets say that rent is $100 per month and that the GRM is 80 the adjustment then would be $8000 ($100 x 80) and I would put that within the market grid as an income adjustment ... because it is so difficult to separate out each difference and the exact amount of rent attributable to it .. using a simple adjustment as noted above reflects the total differences in my opinion and thus more accurately reflects the value differences.
It is a market approach with the adjustment based upon the ability of the subject to earn more or less rent than the comparable and application of a market derived multiplier to the difference.

As someone else posted here .. in my market most 2 - 4 family are held by the smaller investor but not an owner occupant of one of the units. In fact that is relatively rare in my market.

Mr Rex's thoughts on regression analysis have some interesting implications, however, getting my tongue out of my cheek would be necessary before talking to the underwriter.

 

[hastalavista]

I am having a discussion with an underwriter as to the appropriate adjustments necessary when appraising a fourplex.
The underwriter is of the opinion that adjustments for baths, square footage, location etc are necessary ....

In my opinion ... these items are considered in an income adjustment. Where comparison of the subject rent is made against that of the comparable and the resulting difference is then multiplied by the comparable GRM in order to arrive at an adjustment for that sale.
One adjustment considering all other differences.

How do the rest of you make adjustments when appraising a four plex within the market grid??

PE-

I'm not sure I fully follow you, so let me try to regurgitate it:
Income (rents) should reflect the differences in user (renter) appeal for the items you mention (bed/bath, GBA, etc.). Assuming GRMs are similar, the one with the best appeal to a renter is going to have the higher rent and therefore the higher value. So far so good.

Sales comparison approach attempts to do the same thing, but rather than doing it the easy way (as was done in the income approach since all differences are assumed to be reflected in rents), we now need to try to identify those units of comparison that best reflect buyer/seller valuations. So, why it makes intuitive sense that a buyer will pay more for additional GBA (up to a point) because they should be able to get a higher rental rate, how much further "digging down" one must go to break-out the incremental value (to the buyer) an additional fireplace or half-bath adds? When does the GBA difference include the bedroom or the bath difference. Is there really a location difference warranted on a rental unit? And, the problem becomes more difficult if there is dissimilarity among the sales comparables.

The problem (IMO) is that while the UW may think there are two different approaches to value, there isn't. Income is what is being valued in both approaches. The IA makes it easy because all components have been reduced to rent. The SCA is not so easy because some (the UW in this case) thinks that it is possible to extract the value contribution of a bedroom based on some other mechanism when the value contribution of a bedroom is presumably the additional rent it generates.

So, what I try to do is this: Reduce my grid adjustments into three general categories:
A. Size differences in the rentable area, typically expressed as a GBA adjustment.
B. Condition adjustment- and more weight given to maintenance level items then upgrades (depending on the market, of course); sometimes a remodeled unit is not going to generate a significantly greater amount of rent. But roof that is at the end of its economic life must be replaced.
C. Location adjustment. This is the most subjective of them all, but can be supported by rent differences. What may be an impairment for a SFR may not be an influence on a rental unit. But, if there is one nice area of the neighborhood where the difference is due to the location, so be it (I don't see that a lot).

IMO, these three adjustments reduce the SCA problem to something that is manageable.
We are making GBA adjustments for differences in GBA which assumably affects rents. Yes, if you have units with significantly different bed/bath counts, that has to be analyzed. In many of my markets, the difference in bedrooms can be accounted for appropriately in a GBA adjustment.

Condition adjustments reflect differences that buyers will consider. Again, if I'm buying a property that needs to be repaired or upgraded, that may have a secondary impact on rents but will have an impact on my purchase price- I will not want to pay the same for two properties even if their rents are identical if I know I'm going to have to spend out-of-pocket monies to fix one of them that I wouldn't have to spend to fix the other.

Location adjustments. Rarely do I find them necessary, but if a property is located in what appears to be a nicer neighborhood and the rents are higher for no other reason, then a location adjustment is necessary. If no discernible difference in rents, no location adjustment despite what may appear to be superior or inferior- the market simply does not recognize it.

This takes a little set-up in the addendum explaining why I chose these areas as the units of comparison and adjustment in the sales grid. And, of course, it assumes that the dynamics of value can be categorized as I outlined (not always possible, but I find it so in my urban and suburban markets). It also assumes that we are talking about properties that trade based on their investment appeal vs. owner-occupied (which skews everything!).

My experience is that with some UWs, they expect to see adjustments for certain differences whether such adjustments are warranted or not. OK, fine . My process is to tell them where I've put that adjustment (GBA, condition or location) so to give them a level of comfort that what they think is necessary is included in the report (and if it is necessary, it is included in the adjustment!). :icon_wink:

My 2-cents.

 

[Mike Boyd]

Well expressed, Denis.

 

[hastalavista]

Well expressed, Denis.

Thanks, Mike-

I took an AI course this week and the guy I was sitting next to had some good ideas about 2-4 valuation.
He must of got it from his mentor! :laugh: :icon_wink:

 

[Jim Onderisin]

I agree with Mike Boyd. We are doing three approaches to value. It is true that the prospective buyer translates an additional half-bath per unit into higher rents and will pay more via the INCOME approach. But the sales comparison analysis is NOT the income approach. It compares sales of similar properties WITHOUT regard to income. It answers the question, "Will a similar property with an additional half-bath per unit sell for more in the market." Will it? I say "yes" without any consideration of rents. You may disagree. But, if it WILL sell for more due to the half-baths, then an adjustment must be applied in the sales comparison analysis.