Cost Approach and those who "mail it in"

[CANative]

But the development cost of the lot should be included in the land cost

Do you mean that it should be part of the land price or part of the cost of the land portion of the approach?

I'm just saying that EI should be a separate line item in reporting the cost approach. You may prefer to include it in the cost of the land.

 

[Terrel L. Shields]

The CA is based on the principle of substitution. Where is the meaning in a CA done on a SFR in a fully developed neighborhood where there is no option of building a substitute property.

That is an outright fatuous argument. The same people who would not blink at using 3 sales that were 10 - 30% higher or lower than the SA estimate balk if they think you might have a 10-20% difference in contractor bids...

Using your same argument that the house couldn't be built in that neighborhood what happens if nothing sold in the same area you claim cannot be built on???...

ALL three approaches are based on substitution...You are valuing a home on the SALES APPROACH when it is NOT SELLING. You are basing the CA on something that isn't being BUILT or can't be built day zero. You are basing the IA on the basis of rents when it might be VACANT (is the value thus zero? GRM 200 x zero rents = ???)

The only ones building houses for free are Jimmy Carter

Habitat for Humanity homes are not "free"...

 

[CANative]

That is an outright fatuous argument. The same people who would not blink at using 3 sales that were 10 - 30% higher or lower than the SA estimate balk if they think you might have a 10-20% difference in contractor bids...

Using your same argument that the house couldn't be built in that neighborhood what happens if nothing sold in the same area you claim cannot be built on???...

ALL three approaches are based on substitution...You are valuing a home on the SALES APPROACH when it is NOT SELLING. You are basing the CA on something that isn't being BUILT or can't be built day zero. You are basing the IA on the basis of rents when it might be VACANT (is the value thus zero? GRM 200 x zero rents = ???)



Habitat for Humanity homes are not "free"...

They're free of developer profit (unless you count his gains in improving his historical image.)

The cost approach reflects a market decision of "buy versus build."

 

[David Mescon]

EI as reflected by M&S is often unneccesary, non existent, or hard to detect until the national level builder/developers become involved. Which might explain why the Case/Shiller index is not reflective of the real story. Why is EI an add on to the Land Cost anyway? All M&S is missing is the development cost and added profit/risk for the development to make a site saleable as a marketable SFR entity. Why would that not be included in the Cost of the site? Except when the only sites available are captive to large builder/developers who purchased the land in mass and developed it? Even when builders buy down multiple sites in a subdivision, they often advertise lot prices (which includes EI). When doing a CA in these cases, no additonal EI/EP is warranted, unless you label it as it is, Excess Profit (or Excess Incentive).

Rex, this is just not correct. Honestly, it's been a really long week and I just don't have it in me at the moment to explain this in detail and address every possible buying scenario and permutation. EI couldi be in the land cost, but more often it is not.

By the way, my comment to Ken was intended to be tongue-in-cheek.

 

[PropertyEconomics]

Joyce, you think an appraiser telling a peer he never met and knows nothing of, a first time poster, to send back his license is great stuff?? Is this board kindergarten?

Actually Joyce gets it JGrant ... so get off the high horse, read, learn, and pay attention.

There are MANY times a cost approach is a very accurate and reliable method of valuation .. for a CG to state the exact opposite shows many things. KenAZ has many things more to worry about than that the old meanie PE hurt his feelings ... A cost approach takes time and effort.

I will concede this point though, the way most cost approaches are completed they are meaningless because they are misleading. Now that is something I can agree with but to simply say they are meaningless in appraisal of anything more than a year old is ...... well I cant say here .. lets just say its not good.

Thank you Joyce ... I appreciate your understanding where I was coming from.

 

[CANative]

To be fair PE, the CG did not state "the exact opposite." The CG just stated that the numbers are meaningless except in new construction. His statement is debatable.

He is not alone in his contempt of the cost approach:

"A third method of appraisal is somewhat tentatively and timidly put forward by the claimant, namely, the reproduction method. Here an expert is called upon to give his version of the sound value of the building by estimating what it would cost to reproduce it, and then deducting a fair amount for depreciation. This "method" is perhaps the most excellent example conceivable to demonstrate that none of such abstractions ought to have a place in the search for market value, generally speaking. Ignoring the fact that on the figures an absurd result is reached, it is apparent that the reproduction method is in itself absurd in the ordinary case, because even in ordinary times it is ridiculous to suppose that anyone would think of reproducing this or any like property, and that same thing would be true in the vast majority of cases, I should think."

United States v. 49,375 square feet of land in Borough of Manhattan, 92 E. Supp. 384, 387-388 (S.D.N.Y 1950), affirmed per curiam sub. nom. United States v. Tishman Realty & Const.

 

[PropertyEconomics]

To be fair PE, the CG did not state "the exact opposite." The CG just stated that the numbers are meaningless except in new construction. His statement is debatable.

He is not alone in his contempt of the cost approach:

"A third method of appraisal is somewhat tentatively and timidly put forward by the claimant, namely, the reproduction method. Here an expert is called upon to give his version of the sound value of the building by estimating what it would cost to reproduce it, and then deducting a fair amount for depreciation. This "method" is perhaps the most excellent example conceivable to demonstrate that none of such abstractions ought to have a place in the search for market value, generally speaking. Ignoring the fact that on the figures an absurd result is reached, it is apparent that the reproduction method is in itself absurd in the ordinary case, because even in ordinary times it is ridiculous to suppose that anyone would think of reproducing this or any like property, and that same thing would be true in the vast majority of cases, I should think."

United States v. 49,375 square feet of land in Borough of Manhattan, 92 E. Supp. 384, 387-388 (S.D.N.Y 1950), affirmed per curiam sub. nom. United States v. Tishman Realty & Const.

Ahhhh but CA .. they used REPRODUCTION not replacement .. my guess is the court is stating no one would REPRODUCE that which is there. Interesting how words have different meanings when the real words are examined. I have used reproduction maybe twice in my appraisal career, one of which was for a FLW house here in NM. Replacement is a much different beast wouldnt you agree regardless of your disdain for the cost approach method of valuation.

 

[CANative]

How about this from the Assessor's Handbook:

RELATION BETWEEN COST AND VALUE
The rationale for the use of the cost approach is based upon the economic principle of
substitution. As discussed in Chapter 4, this principle holds that a rational person will pay no
more for a property than the cost of acquiring a satisfactory substitute, assuming no costly delay.
The condition of no costly delay must be satisfied, or the cost of the delay must be added to the
cost of a substitute property. If a property owner would not, or economically should not,
construct a replacement for the existing property if it were destroyed, then a value indicator from
the cost approach has little relationship to market value. This occurs when reconstruction would
not be economically feasible.

 

[CANative]

More from the Assessor's Handbook:

Real property cost tends to equal value only when the improvement is new and reflects highest
and best use. The cost approach is most reliable when the property being appraised is relatively
new and has experienced little depreciation. The reliability of the approach decreases as
depreciation of the property increases (typically with the age of the property), due to the difficulty
of estimating depreciation.

 

[CANative]

And more from the Assessor's Handbook:

Certain costs, while often not explicit, are nonetheless included in total cost. For example, if an
owner/builder provides his or her own labor, he or she may not consider it a cost, but it should be
a part of the appraiser's cost estimate. If an owner/builder provides construction capital (i.e., there
is no outside construction financing), the cost of construction financing, based on current market
rates and terms, should be imputed as a necessary cost of production.71 The initial sale of a
property from the builder to the first user is also a necessary economic function, and the cost of
this transfer should be included as part of total cost (subsequent transfers, however, are merely
transfers of an already-produced commodity). Cost factors for residential property usually
provide for this initial transfer cost, but it may be necessary to separately add transfer costs for
other types of real property and for personal property. Other valid components of cost, such as
feasibility studies, planning expenses and fees, leasing expenses (all indirect costs), and
entrepreneurial profit vary widely in amount according to property type and the circumstances
surrounding development, and the appraiser should determine whether these costs are included in
any standard cost tables used. If not included, the appraiser should separately add them to arrive
at an estimate of total cost.