Cost approach on 112 year old home?

[Jeff Horton]

UW is wanting me to complete Cost Approach on a 112 year old home. I stated in the report that the CA was not applicable and that I did not have what I believed to be accurate data. Home has 12 foot ceilings. Large pocket doors, paneled walls. Very high end home in its day.

Home has an effective age of 10 years. Has been very well maintained. Urban location with no recent land sales so lot value is an educated guess. I simply do think that this approach is applicabe. Am I wrong?

 

[LavellB]

Jeff: If you have Marshall & Swift Residential Cost Handbook, look under Special Studies page OR-1. You will find a discussion on Old Residences. Maybe some of the data will assist you in appraising your subject. Good luck. Lavell

 

[Ray Ohler]

checking the insurance policy. There is NO PROBLEM until there is A PROBLEM. Depending on what the policy states and in an effort to keep costs down especially in the case of 112 year old houses, replacement cost is usually insured. However, the homeowner usually doesn't FULLY understand that until AFTER the house burns down then has a lawyer make a list. If keeping with the "form" guidelines, depreciated REPRODUCTION cost is estimated. Most people could not afford to "reproduce" an old dwelling especially one that utilized a lot of oaks, mahoganies and specialized masonry work. The Cost Approach normally ISN'T applicable in the case of older homes. However, majority of lenders want the figures filled in anyway. Whereas replacement cost may only be say $50-$65 SF on GLA, reproduction cost could EASILY be double that. SO, if it were me directed to do a Cost Approach, I'd make sure my reproduction cost new was "on the high side" and load it up with physical depreciation and, if appropriate, functional and external obsolescence.

 

[Pamela Crowley (Florida)]

Jeff,

If they won't back down and insist that you do the cost approach first thing to do is charge $150 more!!!

Next, do the best you can and state that The Coast Approach is provided upon the insistance of the underwriter only and is not considered reliable for a home this age or given any weight in the final opinion of the estimated market value.

Fixed!

 

[Jeff Horton]

Thanks Pamela, that is exactly what I am thinking. I wrote a rather lenghty disertation on why Cost Approach is a waste of time. If they don't accept that then I am going to do exactly what you said! Plus warn then it will take at least a week to gather the needed information.

Might require hiring a contractor to quote me a cost too

 

[bradellis]

Jeff,

First, understand that these comments come from a true believer in the cost approach- and there are not many of us left.

You can and should do a cost approach on the subject- unless it is a historical register home. I say this for 2 reasons- 1) your client clearly expects it, and 2) it is just not difficult to do. Because your client expects it- it is part of the "assignment conditions", one of the factors setting up your scope of work.

You say it has an effective age of 10 years. If so, and total economic life is say, 60 years, the age/life method is well, a simple calculation.

So, what is the problem? If you reported an effective age you must know the rest.

If it is historical and the historical nature is in the improvements, then it cannot actually be replaced or reproduced. Even then you could do it hypothetically.

On these older homes- every appraiser should ask their clients if they expect the cost approach- it is part of your job with the client to determine the scope of work.

Brad Ellis, IFA,RAA

 

[George Hatch]

Jeff,

I would suggest that if your are forced to do a cost approach on this home that you plan on disclosing in your reconciliation that you were requested to do so and that you give it no weight, just like Pamela said.

Next, I would recommend you review Marshall and Swift's Depreciation Section. If you are going to use M&S as your primary source of cost data and depreciation analysis, you should be comfortable with their current methodolgy. If worse comes to worse and you are facing off with some attorney in the future, it would be a good thing to have the current methodolgy on your side rather than searching for ways to get around it during examination.

In M&S, you will find that the use of their depreciation schedules is based on a slightly different theory of loss than the one that you were probably trained in. They refer to is as an "extended-life theory of loss, based on the concept that a proven ability to exist leads to continued existence". And yes, that was a quote from the instructor's manual published by M&S for the use of their residential cost guide.


Anyhow, the current method for determining depreciation is based on the following equation:

Economic Life - Remaining Econimic Life = Effective Age.

This is different than the way most of us were trained:

Economic Life - Effective Age = Remaining Economic Life

The newer methodology works slightly different and takes into consideration not just the physical depreciation factors but also some external factors (what is happending in the subject neighborhood, for example) as well.

In your case, the book will probably say your home has an economic life of 60 years. That's a pretty arbritrary number, but it's the one they use. In your market segment, you may find reason to estimate that this structure, if maintained under an average maintenance scheme, will probably continue to have contributory value for another 40 or more years. This would result in an effective age of 20 years using the above methodolgy (60 - 40 = 20). Then you use the table to find out that the depreciation amounts to 18%. If you decide the remainder is indeed 50 years, then you will come out with a 10-year effective age and a lower depreciation rate. The table does not count any undue functional aspects that you would find in a 112-year old home, like floorplan, inefficient construction techniques, dated appliances and fixtures, etc. You would have to add in more loss for these items, if present.

Since you didn't think the cost approach woule be reliable for this home in the first place, there would be no reason to get excited if the results of this approach are completely different from the other approaches to value. The different result merely demonstrates your point. Personally, I would consider not doing the cost approach within the main body of the appraisal and offering it as a supplemental. I detest clients who want to dictate appraisal theory and technique, especially when they are wrong.


George Hatch

 

[jtrotta]

Jeff;
Ray makes a good point; Bradellis, makes a little better point and I'll add in my 2 cents; First- I'll agree 100% with Brad on the requirement of the assignment; 2nd; you must be familiar with some local builders - if not get close to a couple-soon; they can be a source for many different reason's and yes it will add to your credability as an appraiser. There is a venue called "Reproduction Houses" where they copy past designs and duplicate them for today's standards-if you can find a builder that has some familiarity with this type of building, he would be a great source of info. and could point the differences, past & present. You can take in some great information from getting involved.
If you don't know any builders, find your local Home Builders Assoc. and get some input.

I don't understand how you can do an "Estimated Reproduction Cost Approach" without this knowledge and to date I've never heard that M & S provides ESP technology 8O

Please don't tell me you use the PFYA method :roll:

8)

 

[Pamela Crowley (Florida)]

Suggestion on Reproduction vs Replacement: The form says 'Reproduction' but, my comments section, when the house is over 5 years actual age, specifically states with quotes: "Replacement". Just because it seems like the wiser thing to do.

There is no way to do a decent 'Reproduction' cost on older houses without extensive and exhaustive research. Many of the individual components are no longer available and the total of the 'Reproduction' cost would be so far beyond reality it is absurd to even try. CYA and use the more realistic term. My $.02.

 

[bradellis]

George-

WHOA!

While you have a clear understanding of the cost approach and all your methodology is correct, a couple of things trouble me.

First, your formulaes are nothing more than the effective age/life method which is nothing new- I've been teaching it for over a decade and it has been in all the texts. On what are you basing your statement that it is new (or are you just claiming "current")?

Second, you have advised this appraiser to use the M&S chart. However, Fannie Mae requires the effective age/life method as a minimum. Since this approach is being required by the underwriter, is it not possible or even likely that they are requesting same for purposes of Fannie compliance? If so, your advice may be leading him down the wrong path and could cause later problems.

Frankly, I have always questioned the M&S charts and their estimates of total economic life. The charts are meant to reflect the fact that these dwellings do not depreciate in a straight line fashion. Still, the effective age vs. remaining economic life is meant to show the portion of the improvements already used up- whether it happened in a straight line manner or at varying rates.

I'd keep our friend on the EA/Life method only for this assignment.

Brad Ellis, IFA,RAA