Comments - If Remaining Economic Life Is Less Than 30 Years

[Michael P Jacobs MAI]

Effective Age is an estimate based on Condition and Quality of the subject.

...and economic utility.

 

[Michigan CG]

What about a property that is zoned residential, is located next to commercial and will most likely be commercial in the next 20 years? What is the REL?

You are paid to analyze that and figure it out. Seems to me many people pull the number out of their rear end.

 

[George Hatch]

IMO you can't get to REL in isolation from the prevailing market trends and (more importantly) the development trends. The same physical condition that's on its last legs in a neighborhood where there's a lot of redevelopment activity going on may still have 50 more years in a neighborhood where there is no such demonstrated trend or projected demand.

REL is an economic concept, not a physical concept.

Example; 1970yb home of 1200sf on an R3 lot may already be past the end of its REL if the underlying site value exceeds the value as an SFR. SFRs in average and serviceable condition can and do get redeveloped into bigger/better SFRs or into multi-family projects - but those situations are all heavily dependent on the economic conditions in effect in that neighborhood.

Even a beater house may have an indefinite REL if everything else in the neighborhood is like that and there's no trend for redevelopment afoot.

The equation M&S uses in conjunction with their depreciation tables is almost the opposite of the equation that appraisers are generally taught in their intro-to-cost-approach courses.

Where:

Econ = Economic lifespan
REM = Remaining Economic Lifespan
Eff = Effective Age

The conventional formula appraisers usually use is

Econ - *Eff = REM
(55 - *35 = 20) The *eff being the factor being estimated by the appraiser and the REM being the residual

But that's not how MS does it in conjunction with their tables. Their formula is

Econ - *REM = Eff
(55 - *30 = 25) The REM being the factor that's estimated by the appraiser and the effective age being the residual.

If you're going to use the M&S tables and their arbitrary economic lifespans then you should also use the formulae upon which those numbers are based. Which makes more sense IRL anyway.

Incidentally, and I kid you not, the instruction materials for the 8-hr M&S Residential Cost Guide course explain their approach to depreciation tables to be based on the Extended Life Theory of Loss, which boils down to the concept that the proven ability to exist leads to continued existence.

 

[George Hatch]

Incidentally, if there is no demonstrated trend for redevelopment in a residential neighborhood then you would have no basis upon which to opine an unduly limited REL. Even M&S recognizes a maximum limit of depreciation down to about 20%, meaning most homes can be brought back into service with a remodel.

If the purpose of estimating REL is limited to identifying the Effective Age as a residual for use in a depreciation analysis in a Cost Approach then it becomes misleading to also suggest that number is appropriate for an underwriting decision.

The appropriate place to start talking about how the subject in its current condition fits into its market is in the Neighborhood analysis and market segment analysis where you provide the context against which the subject will be compared prior to making those comparisons.

 

[timd354]

Yet the bank will make that 30 year loan to a 70 year old man or woman...? Law nevertheless. Just an observation.

As you know banks do that because they are required to do so under the law since they are unable to consider age as a factor (except in determining whether someone is legally considered an adult. My company as paid a good number of claims on loans that defaulted because the borrower died and several of these borrowers were 70+ years old when the loan was originated. We realize that elderly borrowers represent an increased default risk due to death, but there is nothing we can do to mitigate that risk.

 

[GA Benny]

Even FHA and VA guidelines require additional support for an opinion of REL less than 30 years, so it is not just the lenders. A 20 year REL means they are limited to a 20 year loan on the property. So yes, they are essentially saying "just make it 30 or higher and we could care less about your analysis".

 

[Terrel L. Shields]

Even FHA and VA guidelines require additional support for an opinion of REL less than 30 years, so it is not just the lenders. A 20 year REL means they are limited to a 20 year loan on the property. So yes, they are essentially saying "just make it 30 or higher and we could care less about your analysis".

Which can make liars out of us, but "wink,wink" you know...it's SOP, no big deal

 

[Peter LeQuire]

Incidentally, if there is no demonstrated trend for redevelopment in a residential neighborhood then you would have no basis upon which to opine an unduly limited REL. Even M&S recognizes a maximum limit of depreciation down to about 20%, meaning most homes can be brought back into service with a remodel.

The Life Cycle Chart - Residential Properties in the Residential Cost Handbook demonstrates this graphically: it can't be used to extract REL or EA, but it is helpful in visualizing what is going on with houses throughout their lives.

 

[Tom D]

if FNMA will loan on a c5 then they must think it has 30 years left? if you are handy you can live in a c4 for 30 years. the big problem is the roof. those leaks can destroy a nice looking c4. you just might not like the retro look, and have shown your dislike in the effective age. are you one of those 2%ers who lives on the hill, and looks down on us c4ers.

 

[Michael P Jacobs MAI]

Funny, I've been deep in this issue for the last week... a nice building owner-occupied for 20 years and very competitive is being purchased for redevelopment. Expected Age = 75, Effective Age = ??, Remaining Economic Life = 0.