External depreciation

[Lee SW IL]

Looking at another appraisal.

If a home has nearby external depreciation, ex Railroad tracks, busy street, vacant-burnt out homes, ect. The comps do as well, so no location adjustment.

So the site value is the same as the comps, do you take off on the cost approach? Isn't it already taken in site value? :?

Did I answer my own question:?:

Thx Lee

 

[Ray Ohler]

not "depreciation". You MIGHT have answered your own question. The external obsolescence is "built-in" (or SHOULD BE) to the site value. If the comps were are similarly impacted then no adjustment would be needed in the grid (although "average", "average", "average", "average" should NOT be indicated under "location"). However, you still have the improvements to consider in the cost approach. How much obsolescence is allocated to site, how much allocated to improvements (I've heard a LOAD of explanations of this).

 

[jtrotta]

If your going to allocate some to the site & some to the improvements, aren't you then going to have to have some specific way of determining the allocation method your going to use in either case? And what if that data is not available to you at this time?? You may have to use the similar comps of similar quality & affect; Y or N ??

You know you just may have answered your own question

 

[Ray Ohler]

That's what I've heard a lot of answers on. Where did the "allocation" come from. There are a few ways to determine an "estimated" allocation, all of which appear to be "a little biased" to me. That's why when I "review" someone's report I do not get all tied up in technicalities (which may or MAY NOT be 100% correct). If the report is fairly consistent and isn't clearly "wrong" (broad brush) I wouldn't even mention the technical points that I may or may not agree with.

 

[KD247]

Ray - good answer.

Can anyone out there provide a hypothetical example of a situation with true external depreciation? That is, where external influences have already been considered in the site value and there is a remaining effect on the value of the improvements?

Koert

 

[Richard Carlsen]

I think that most of the properties I do have some external, mainly for the low-density rural nature of the market. I find that there is a measurable difference between houses " in the sticks" and closer to the towns. I generally make an adjustment for external in the Cost Approach for the lower demand/movement of the market but do not make any adjustment in the Sales Grid since the comps used generally are subject to the same low density market forces by their location.

One tends to see a pattern forming for this external and it is generally fairly measurable and consistent from sale to sale. For instance, the development where I live is usually given an 8% external adjustment in the Cost Approach. Areas just outside of the business/economic center of the area generally get about 3 to 5%. Some areas, due to low demand and low density get 10%. I never give any external to waterfront as most of the time, my first go-around with the Cost approach usually ends up lower than the Sales Grid, indicating that I have underestimated the site value.

The only time I do a location adjustment is when comps cross the lines of these areas. This is sometimes necessary due to the limited number of sales available. Then I will do a small percentage adjustment that is generally reflective of the difference between the local externals considered.

 

[Austin]

I was just browsing some of the above comments and couldn’t resist commenting on them. In my appraisal education, I was taught that there are two forms of external obsolescence; economic and environmental. Economic refers to the general economy local and national, and environmental refers to environmental such as air quality, odors, etc. Some of the comments above seem to indicate that if you inspect a property and smell something in the air, external obsolescence exist. External obsolescence does not exist until enough statistically significant data exist with which to demonstrate its existence. Location is not a form of external obsolescence in my opinion as it is stated in above post. Location relates to time-distance-amenity relationships, which are distinctly different from externalities. It has been a long time since I read the book, but as I recall external obsolescence is in the cost approach allocated between the land and improvements based on the land to value ratio.
Land to value ratio’s fall into the common sense classification in my mind and don’t have to be supported every time you do an appraisal. All appraisers ,I would think, see many subdivision lot sales and know the average prices for the subdivision. It is a simple matter of dividing the lot prices by the average sale price of the neighborhood. In our market it ranges from 15% to 20% depending on price level. Anytime I see any variation from this, it tells me something is out of kilter.
If anybody wants a reference on my above comments, I think I learned it from William Kennard (SP) who recently passed away. His seminar was titled, “Measuring External Obsolescence.” I took it from him about 12 years ago. He is recognized as the leading authority in this field.
PS: Probably the reason this subject is so confusing is because the sequence of adjustments used in the sales comparison approach is wrong, in my humble opinion, not to mention the fact that using less than about 25 comparable sales makes it statistically impossible to demonstrate anything statistiically significant.

 

[Ray Ohler]

Austin, it all depends on your local market. Location can be because of environmental concerns, situated next to a slaughter house, gas station, etc. I've said it a thousand times before. Each appraisal is somewhat unique to itself (however, not if you're appraising 10 row houses on a 50 house block). When you're doing appraisals in an older, urban area such as Philadelphia, you may not have a bona-fide land sale for 30 years or more. In center city Philadelphia I've seen reports that the "land value" NEVER exceeds 30% (I wonder why?). As far as environmental, I'll give you one, there were two chemical plants situated across the street from each other. Talk about odor? 24 hours a day. Historically, houses in this "affected" market area (note: not "impacted") sold higher than the surrounding "market areas", by a substantial amount. Bottom line was that no external obsolescence seemed chargable. Play on words? Not really. Some homes in the area had been occupied by the same families and relatives since the 1890's, although at least two, three or four family members had died of cancer (mostly brain and lung cancer). Rather strange but true. Oh, over the years I've reviewed reports from the area, funny, I can't recall ever seeing one that mentions ANYTHING about the chemical plants. I wonder if the loan officers or underwriters had anything to do with that? Who knows? Hey, jtrotta, if you read this I've gotten my prescription for paxil, everything is "wonderful", I'm in LALA land. :lol:

 

[KD247]

Richard - maybe you hit the nail on the head by referring to properties "in the sticks". I rarely (ever?) have appraised a true rural property. I guess if someone bought a lot for $25,000 and spent $100,000 on a house, resulting in a home with a market value of $50,000 - that might be considered an example of external depreciation (but how would you explain that it isn't functional obsolescence due to over-improvement for the area?)

Maybe I just don't "get it", but here's an example of what I usually see:

Site Value $400,000
Cost of Improvements $300,000
Total Value $700,000

Similar property with a negative external influence (physical or economic):

Site Value $350,000
Cost of Improvements $300,000
Total Value $650,000

The cost of the improvements doesn't change, and site value is based on the total value minus the improvement costs. So, doesn't the site value change to reflect 100% of the external influence?

It is clear that negative external influences reduce value, but a builder wouldn't look at a site next to the freeway and say "I'm going to pay full value for the lot, and I'll come down to market value by taking a hit on the value of the improvements". The builder has the same improvement cost, so he would just offer less for the site. When the property is finished and sold, the market would expect to pay only the difference in site values.

Maybe my question should be: Under what circumstances would the site value not reflect 100% of the external influence?

Also, to be consistent, where's the opposite? If the value of the improvements take a hit for negative external influences, shouldn't they get a boost for positive external influences? :?

 

[Austin]

Koert: An example to illustrate your question: Suppose the site value is $20,000 and you can support an external obsolescence of $30,000. If the sites are selling at $20,000 how can you say a $20,000 lot (based on numerous lot sales) is worth minus $10,000? Your method could do just that. I was taught in an AI class that there is only one instance of negative obsolescence and that has to do with zoning. For example, if you have improved commercial property that was down zoned to a lower zoning classification, that would create negative obsolescence in the property. I ran into this once in doing an appraisal of a 72-unit apartment complex. When the apartments were built the zoning law allowed one unit per every 2,000 square feet of site area. It was later changed to 2,500 square feet per unit. When I did the site value estimate all sales were based on the 2,500 sf rule, which inflated the site value of the subject. The units all sold for the same per unit price regardless of the site area requirement. I justified it by claiming negative obsolescence in the subject property. Under this condition, I don't think you can separate the land and building components and attribute it to the site only because the entire unit price reflects the negative obsolescence.