External depreciation

[Tom Hildebrandt]

Lee Ann, Koert and Brad

Interesting conceptual discussion.

I just read the section in the 12th edition just to clarify my understanding. I think part of the issue being discussed is a semantics thing.

Externalities can indeed affect land values and improvement values. External obscolesence is depreciation from off site issues and can only be charged to improvements during the cost approach. Land can not depreciate.

Ergo, it is a semantics thing. If you adjust the land for externalities, it is not depreciation, it is an adjustment for whatever factors are driving the lower prices. You can adjust a comparable sale for externalities, it is an adjustment for that specific factor, it is not depreciation.

In the cost approach, how you treat the loss due to the externality is based on how you derived your estimate of the loss. If you derived the total loss from improved sales data, you may need to allocate between the improvements and the land depending on the data. 12th edition provides suggested techniques. When you apply the loss to the improvements in the cost approach, it is depreciation. You would apply the remainder to the land as an adjustment (not depreciation), assuming your sales were not so impacted.

If you derived the land values from market sales which were similarly impacted, no adjustment to the land. Only depreciation to the improvements based on your allocation.

Just semantics I think, sort of confusing the term externalities and external depreciation. I think all the examples can be explained with variants of this terminology.

Maybe I over simplified, but that is my cut.

Best Regards

Tom Hildebrandt GAA

 

[Farm Gal]

Thanks, Tom!

Lot less words, more said!

Regards!
Lee Ann

 

[KD247]

Tom,

Nice summary! As I was driving around this morning, I tried to come up with a working definition of External Obsolescence. Here's what I came up with:

Functional Obsolescence that can be directly attributed to a specific and unique negative locational factor.

This assumes that the site value is properly developed (which would mean that the site value is probably zero or has some minor speculative value), that the improvements represent the highest-and-best use, and that the site is not over-improved.

Now that I've got this on paper (sort of), I still think it turns into a circular argument. As I was near the start of this thread, I'm still looking for a hypothetical example of a property where the site value is fully developed, the structure doesn't constitute an over-improvement and there is still some impact on the value of the improvements due to an external factor.

As a prize, I am willing to put up my wife's dog.

Koert
(Lot more words, less said!)

 

[Tom Hildebrandt]

Koert

In certain case external obsolescence can be difficult to segregate from functional issues. This would be particularly true where economic conditions impacting highest and best use have caused changes over time.

The best example I can think of to illustrate the precise difference is in a urban renewal project area. Before the government undertakes a renewal project. If the neighborhood is blighted, land values are generally low but often properties are overimproved, at least for the revenues generated. It is a locational thing. This would be functional loss. Yet, even in such a market investors will buy based on the income stream. However, now the government comes along and says that over the next several years we will be buying properties and demolishing them. Many investors, who formerly would have bought will not now buy, because the cost to acquire will not be offset over a long enough period of time. Accordingly, there are fewer buyers (except those who hope to scam $$ off bad appraisals) and lower values. Often tenants are difficult to obtain since they can not be assured of long term rentals. These factors can lead to an additional loss in value. In litigation cases, the loss in value to factors caused by knowledge of the pending project is called "condemnation blight" and is a classic case of external obscolescence.

So, functional issues may already be present, but factors outside the subject can still cause an additional loss in value.

I think the above example qualifies me as a recipient for your wifes dog; unfortunately, I already have a black Labrador, and do not wish an additional pet. Thanks for the offer just the same.

Best regards

Tom Hildebrandt GAA

 

[MAC]

Lee Ann and all
I want to thank you all for the most informative thread I have read in a long time. No, the best. I have just learned more here than I did in my last con ed course.
Lee Ann you started this thing and its all your fault :wink:
Correct me if I am wrong. The land in the cost approach is market valuefigure, and the MARKET has already adjusted for the obsolescence. The structure is depreciated for physical, functional and or locational obsolscence.

 

[Farm Gal]

Mac:

I think you have it! At least by MY understanding ...

I must respectfully decline kudos for initiation of thread: that honor goes to Lee: who posted the intial plea for help. I came in much later and muddied the waters with my rambling attempts to "prove" external whatever you want to call it in your reporting format of choice.

I will lay claim to an honest interest in improving my appraisal knowlege and even get a little egg on face if needed to do so!
Sure are a lot of lurkers out there who have been peeking 8O without contributing though: to whom I say CHICKEN!!!!:lol:
I think we need a 'blabbermouth icon'.

C'mon guys and gals surely there are others who have some passion and opinions! LETS USE THIS FORUM!

and as always lets remember to say
join in the chorus:

THANK YOU, WAYNE!!!!

 

[bradellis]

Lee Ann-

I'll bet all the instructors who are reading this string are PLEASED that you claim to be gaining knowledge. Any appraiser who admits that he/she does not know it all (and I am certainly in that group) is right on track.

I almost always start my classes with that old saw, "The only DUMB questions is the one you do NOT ask".

Brad

 

[Mike Garrett RAA]

Henry Harrison's Illustrated Guide to the URAR form handles these questions very well including comments to add.

Building a house in an industrial area would create economic obsolescence not functional.

Functional Obsolescence....a loss in value of real estate IMPROVEMENTS due to functional inadequacies due to poor design and/or change in market standards or requirements. The Language of of Real Estate Appraisal, Fisher..© 1991.

External Obsolescence....a loss in PROPERTY value resulting in negative influence outside the property itself. Generally incurable. This is from the same book.

Notice the difference? Function applies to improvements and External to the entire property and then would also affect the land value.

Damn, it's amazing how reading improves one's knowlege!

 

[Farm Gal]

Thanks Mike!

What you said is exactly what I have always understood, and beleived to be true, I think Tom's summary does fine tune some of the detail on how to handle this issue when developing the cost approach (apportioning the loss to site and improvemnts).

I personally do not quite see Koert's approach as something I care to follow, as to me the damage is from outside the site, and occurs to the improvements ONLY as a result of thier presence in proximity to the external influences. Move 'em off site, no penalty and no foul!

Regards,
Lee Ann

 

[KD247]

Mike,

Thanks for the well-worded definition. That's exactly as I've always understood external obsolescence.

The question then becomes: "How much of the external obsolescence is attributed to the land and how much to the improvements?"

Tom's excellent condemnation-blight example involves a loss in value due to changing political conditions. I would suggest that if someone were to build a new home in that area, their preliminary analysis would call for a lower site value. If the builder saw an immediate capital loss in the improvements, he wouldn't buy the site.

Looking at a proposed property from a strictly economic view, the cost of the improvements are fixed, so why would anyone pay more for a site than they can recoup when the finished product is sold?

OK, I'm beating a dead horse, but only because I don't feel that I'm doing a very good job of explaining why I see contradiction in the concept of External Obsolescence being attributed to improvements.

If anybody is still trying to follow my line of thought - thanks, I really appreciate the open minds and the patience towards someone who just doesn't get it.

Koert
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"Arguing with an appraiser is like mud wrestling with a pig... You soon find out the pig likes it!"