Highest and best use

[Brad Ellis]

Steven,

I think one needs to go further with the example you provided.

Why would the owner(s) developing that site spend all that time and money to get all the bits and pieces down to build on the site and to create the cash flow? Because he/she/they see the increased value from having done so- both to the land and to the planned improvments. once allocated.

And after we roll in all those costs, the costs for scraping any old improvements that may have existed- like on the adjacent site-and then build to the H+B use, they will earn a profit from having done so that would, at least in theory, produce more cash flow and more value to the land.

So, in your example, it would seem that the highest and best use has already changed, as has the period for interim use. Now that it is done, there is no interim use I can see- it is time to build.

Therefore, under that example, I would contend that the H+B use for the other site has already changed as well and the improvements would no longer be adding to value. They might even be detracting from value. Note that I am aware that is still throwing off cash flow- it is just that it does not appear to be throwuing off enough cash flow to justify keeping the improvements since a much more profitable use could apparently be achieved by demolishing the improvmens and going thru the same process as did the neighborhing lot.

Brad

 

[Fred]

Brad

Therefore, under that example, I would contend that the H+B use for the other site has already changed as well and the improvements would no longer be adding to value.

The givens state that both were equal. That goes to ripeness. Both are ready for major projects.

I am not following the logical chain that leads up to your - “therefore” the improvements have no value. This seems to boil down to a “textbook-definition,” two-property illustration of the principle of substitution. One chunk of ripe land offers positive cash flow during the planning phase of development because of its interim improvements and the other offers only property tax expense. That the first site is more attractive (and valuable) seems very obvious.

I don’t mean to be patronizing and I know you don’t intend imply precision, but HBU analysis is not a scalpel. It doesn’t cut as fine as your implied either-or conclusions. This is part of what Kinnard and others that followed him were saying about the semantics of “highest and best” being at odds with the most-probable and most-likely world or ranged estimates. The idea of ranges not only applies to value estimates, but use options (what specific type of use) and time frames (date of ripeness).

It’s not like one minute the improvements ought to remain and a minute later the evolution of the neighborhood cycle is such that they ought to go. What I am suggesting is that there is an “interim” during which your reasonable calculations may show that redevelopment is not feasible, but it’s close enough that the site is in play. Even after the site passes your reasonable threshold of feasibility and profit by a substantial amount, the site may sit on the market with a big “for sale” sign on those interim improvements. But don't expect the seller to knock them down and forgo $250,000 per year just because an appraiser thinks they don't add anything to the site.

 

[Richard Goodfellow]

I didn't realize this thread was still going. sure is getting pretty heavy. For the curious this was an FHA reverse mortgage. There were many many reepair conditions so the property would have been improved somewhat. This property is in a high end area. most buyers are transplants from CT, NY, NJ etc. There are a few small homes near the subject and then developments with $400,000 and a few million dollar properties. this property is on a busier road and is not the best location but the site still has substantial value. after years of rapid appreciation the market has flattened out. hope it doesn't decline.

 

[Richard Carlsen]

Richard

If, in your determination, the H&BU was other than single family residential, you should have stopped the appraisal process and reported this to your client.

The FNMA forms cannot be used for anything other than residential so once there is a change in H&BU, these forms are no longer applicable.

 

[Brad Ellis]

Steve,

No- I certainly did not want to imply such precision. As we both know these calculations are always tenuous.

As to that single point in time during which the H+B use changes- well you may or may not be right. It could be that the point actually does exist but we would not have the data to demonstrate when it happened. If you are expecting that any of us could say that H+B use changed on Thrusday at 2:14 PM, I think we'd all get a good laugh out of that one.

As to the interim improvements generating cash flow- that is absolutely possible. However, it would, in my view, have to be measured against what the cash flow could be once redevelopment occurs. Of course this is actually hypothetical since it would take time to actually build the replacement improvements. However, if that ultimate cash flow was large enough, discounted to present value, could it not indicate that H+B use had, indeed, changed? I think so.

Naturally, just because it changed, it does not mean every seller will immediately make the move. There are numerous possible reasons for someone to wait- and lack of funds is just one of them. We have all probably seen this from time to time. I know I have.

My wife worked on one last week out in the desert- 50 acres that is subdivisible for up to 4 units on 1 acre sites. Clearly this land has a higher and better use than building one SFR. The achievable rents are out there. But, do I know if this guy has the intent to subdivide or the wherewithall to accomplish it? No.

Getting back to the original poster's question, though- I'd say that if hecan really measure that the improvements are still adding to value then H+B use is the current use- interim and future uses notwithstanding.

Brad

 

[Fred]

However, if that ultimate cash flow was large enough, discounted to present value, could it not indicate that H+B use had, indeed, changed? I think so.

I stated twice that both sites are ripe for development. So yes, the HBU has changed - maybe years ago.

In discounting, the income offered by the interim improvements will be staring you right in the face and showing up in your present value. In fact, you would be able to isolate its incremental contribution.

 

[Fred]

Brad,
Right up the same alley.

http://appraisersforum.com/commercial-industrial-appraisals/108303-highest-best-use-methodology-dilemma.html

 

[moh malekpour]

To me, the H&BU analysis is based on two assumptions:
Assumption 1: as if the land was vacant. Assumption 2: as if the vacant land was improved.

For any real property appraisal, the appraiser has to consider the H&BU of the land by first assuming as if the land was vacant and when that assumption was established the second assumption is as if the land was improved. To make a decision on the H&BU of the land as if improved, the appraiser has to consider four pillars of H&BU: legally permissible, physically possible, financially feasible, and maximally productive.

Any real property can be a vacant land or an improved land.
If the real property is a vacant land, the appraiser has to use those 4 pillars of H&BU in the study and analysis of the H&BU of that vacant land. In that analysis, the appraiser may conclude that:
1- The H&BU of that vacant land is its current use (Vacant Land) when the neighborhood is changing and land use and zoning are changing and there are some controversial going on in the neighborhood land use decision making and meanwhile the value of vacant land keeps going up and the best use of that land is to keep it vacant (you may call it interim use but it is current use) as it is more profitable to be vacant than any improvement on it at the present time
.
2- The H&BU of that vacant land is to improve it and the appraiser should find out what kind of improvement is the H&BU of that land considering those 4 pillars of H&BU.

If the real property is already an improved land, then the land has a current use and the appraiser job is to find out whether the current use is the H&BU or not.
In this case again, the appraiser has to make an assumption as if the land is vacant. The appraiser cannot make the second assumption as if the land is improved unless has established the first assumption as if the land is vacant. If the value of the land as if vacant is higher than the value of that land with current improvement attached to it, the H&BU of the land is the land as if vacant and if it is assumed to be vacant, the second assumption is what kind of improvement would be the H&BU of that vacant land.

We got here two H&BU in tandem for this analysis. H&BU as if the land is vacant and right away H&BU of that assumed vacant land, as if improved.

In the analysis of the H&BU as if improved, we have to use 4 pillars of H&BU to decide what use is the H&BU. It can be the same old use that we can change it by our assumption as if vacant or we can come up with a new use. In any case we again need to use those 4 pillars.

In deciding when the current use is the H&BU, my perception is that the current use is the H&BU of the land as long as the value of the (property) land with current improvement attached to it is more than the value of the land without improvement minus the cost of demolishing the current improvement.

Lets find out the H&BU of property Y which has a minimal improvement value. I use the property X to show the market value of the vacant land of property X and property Y

Property X: Vacant Lot, R-1 Zone, 6000 sqft lot size (60 x100), flat, has all utilities hooked. Market Value: $200,000
Property Y: 100 years old home, very bad condition, R-1 Zone, 6000 sft lot size (60x100) flat, has all utilities hooked. Market value: $204,000.
The cost of demolishing is $3,000
H&BU of the land of the property Y is to keep the house (current use) because if you spend $3000 to tear it down, the market value of your lot would be $200,000 and you lose $1000 which is not financially profitable although very small..
If the market value of property Y was $203,000 or less, the H&BU of the land was not current use, it was the vacant land and when we have the H&BU as the vacant land, we got to decide what is the H&BU of that vacant land as improved.

 

[Fred]

Moh,

H&BU of the land of the property Y is to keep the house (current use) because if you spend $3000 to tear it down, the market value of your lot would be $200,000 and you lose $1000 which is not financially profitable although very small.

That's less than one-half of one percent. Is that before or after 2:14 PM?

On a test, your scalpel may cut that fine. In real life, you could have a sick patient on borrowed time when it comes to remaining economic life.

Friendly advice: Those four “pillars” are really limits. They reduce the options available. Also, some folks recognize reasonably probable and appropriately supportable as limits. Just because it may be legal and possible to do something, doesn’t mean your fellow citizens will let you get away with it. In a lot of locations maximum densities permit applications attract lawsuits faster than you-know-what attracts flies in summer. You know, the NIMBY people. Where I live, we have CAVE (citizens against virtually everything) and half of them are lawyers.

 

[Richard Carlsen]

To me, the H&BU analysis is based on two assumptions:
Assumption 1: as if the land was vacant. Assumption 2: as if the vacant land was improved.

Moh

You are close but you forgot one important item; the demolition cost of any improvements when considering the site as vacant.

In short, H&BU of a property is its most profitable legally and physically permitted use. The calculation is made based on the value of the site as vacant less the demolition costs of any current improvements if any, compared to the value of the property in its present use.

Never forget the demolition costs in the equation.