Highest And Best Use

[J Grant]

see below post

 

[J Grant]

is this because the typical buyer and the ideal improvement are not components of the Highest and Best Use analysis? Not!
Depending on what the OP determines,there may very well be functional obsolescence, which may even be potentially curable, as determined by a proper Highest and Best use analysis

The Appraisal Institute defines highest and best use as follows:

The reasonably probable and legal use of vacant land or an improved property that is physically possible, appropriately supported, financially feasible, and that results in the highest value. The four criteria the highest and best use must meet are legal permissibility, physical possibility, financial feasibility, and maximum productivity. Alternatively, the probable use of land or improved property – specific with respect to the user and timing of the use – that is adequately supported and results in the highest present value.[2]".

HBU is determining what is the highest best use versus possible feasible alternative uses. If zoning is residential, there is no alternative of commercial/other , and if existing house contributes more to site than tearing it down, then existing use is HBU. for assignment purpose.

If HBU were about achieving an "ideal improvement", that would mean every dated house would be subject to upgrading,/remodeling. The assignment is to appraise "as is".

Identifying typically motivated buyers and any impact of functional obs is part of the valuation development. You can call it a HBU issue if you wish, but HBU was already established at start of assignment as existing/residential.

 

[robertwells]

It's hard to believe it would be worth that much substantially less as a 2 bedroom than as a 3 bedroom...I know I said go back in time, but back to 2001 with only one sale of that model might not tell you much. Comparing a 2300 sf range home to substantially larger just to get a bedroom adjustment might not work either.

If it would cost let's say $10,000 to do a good job converting the present 2 bedroom into 3, putting in new floors in the rooms, etc...would the difference in price be $100,000 more? Seems unlikely , (in my experience)

At this point you went back in time and going back in time did not help much. But the search did have value, you can now state, "appraiser went back a over a decade and found no similar 2 bedroom similar size homes in the subdivison."

Sometimes we just have to "grunt a report out". That means just putting the best comps we can come up, more than we might need and making the adjustments. Once you do that you can get an idea what is going on in today's market and recent past (back a year ). A comp may be added or subtracted but putting them on the grid and adjusting them at least a picture of value emerges that you can take further steps to refine.

Yes...Thanks, J...Bob

 

[hastalavista]

The Appraisal Institute defines highest and best use as follows:

The reasonably probable and legal use of vacant land or an improved property that is physically possible, appropriately supported, financially feasible, and that results in the highest value. The four criteria the highest and best use must meet are legal permissibility, physical possibility, financial feasibility, and maximum productivity. Alternatively, the probable use of land or improved property – specific with respect to the user and timing of the use – that is adequately supported and results in the highest present value.[2]".

HBU is determining what is the highest best use versus possible feasible alternative uses. If zoning is residential, there is no alternative of commercial/other....

This is the H&BU as-vacant

....and if existing house contributes more to site than tearing it down, then existing use is HBU. for assignment purpose.

This is the H&BU as-improved. However...the as-improved must always be measured against the ideal improvement... because the Ideal Improvement is what should be built if the property were vacant.
Form The Dictionary of Real Estate Appraisal (5th ed.):

Ideal improvement.
The improvement that takes maximum advantage of the site's potential given market demand, conforms to current market standards and the character of the market area, and contains the most suitably priced components; the improvement that represents the highest and best use of the land as though vacant.

(my bold for emphasis)

Now, to link the ideal improvement with H&BU as-improved (Appraising Residential Real Estate, 4th ed.):

To form a clear understanding of the ideal improvement for the site as though vacant, the appraiser conceives of an improvement that would take maximum advantage of the site's potential and conform to current standards of the market. Moreover, all components of the ideal improvement would be suitably priced. If this new improvement were to be the highest and best use of the site as though vacant, it presumably would have no physical deterioration or functional obsolescence. Thus, any difference in value between the existing improvements and the ideal improvement would be attributable to these forms of depreciation. The appraiser must consider external obsolescence, which would affect the existing improvements and the new improvement equally.

(my bold for emphasis)

Without considering the ideal improvement, how can one measure what is functional obsolescence in terms of floor plan, utility and design? (answer: one cannot)
Consideration of the ideal improvement is necessary when an improved property has functional obsolescence. It is the benchmark to which physical and functional depreciation is measured and is a fundamental step in H&BU development (necessary for the as-vacant and the as-improved).

If HBU were about achieving an "ideal improvement", that would mean every dated house would be subject to upgrading,/remodeling. The assignment is to appraise "as is".

This is, unfortunately, a common misunderstanding. H&BU analysis is always about consideration of the ideal improvement. Always.
But your argument assumes that anything short of the ideal improvement must be appraised as something other than "as is" or the analysis of the ideal improvement is going to result in making the appraisal subject-to remodeling, upgrading, etc. That is a fundamentally flawed understanding of the process.
Appraising Residential Real Estate, 4th ed.:

Financial Feasibility... Property as improved
The feasibility of renovation or rehabilitation projects is often more difficult to calculate than the feasibility of construction on vacant sites because costs may be harder to estimate. Renovation estimates may be based on unit-in-place costs for new work plus an allowance for the normally higher costs of repair work....
The cost of repair work on existing improvements rarely equals the cost of similar work in new construction. Modernizing and remodeling work is usually more expensive for several reasons. Although the quantity of material used may be the same, more labor is involved in repair and conditions are different. Altering a structure usually involves tearing out old work and preforming smaller tasks under conditions that are not conducive to efficiency....
The financial feasibility of renovation or rehabilitation is determined by analyzing whether the costs incurred will be recovered through higher anticipated sale price or an increased income stream. This is the foundation of the test of "curability," which is analyzed in the application of the cost approach.

The OP's post was about having a 2-bedroom home in a 3-bedroom world. The question is, is this a functional issue and, if so, is it functionally curable or incurable?
In order to determine if functional obsolescence exists, one must make a determination of what ideally should exist. What should ideally exist is called the "ideal improvement". It is what should be built on the site and it has no physical or functional depreciation. It becomes the benchmark to measure functionality.
Once it is determined that a functional impairment exists (functional obsolescence; and this is determined in the H&BU analysis that is applicable and necessary for Fannie Mae/Freddie Mac residential appraisal work), the next step is to determine if it is curable or not. If it is curable (it costs less to fix than the value created from the fix), then the "fix" is the adjustment (which may include EI). If it costs more to fix than the value created from the fix, then it is incurable, and the adjustment is the loss in value due to that configuration.
Here are the questions that need to be addressed in the H&BU as improved(Appraising Residential Real Estate, 4th ed.):

• Given the existing improvements on the site, what use should be made of the property and when should this use be implemented?
• Are any changes such as modernization, repairs, remodeling, or renovation needed?
• Would these changes contribute more value to the property than they would cost?
• How should the existing or modified structure be used and by whom?
• Should it be owner-occupied, rented, or used for commercial purposes?

• (my bold for emphasis)

I've bolded the relevant items for this thread.
Are any changes such as remodeling needed? Yes; if the 2-bedroom configuration is functionally obsolete, that is a candidate for remodeling.
Would remodeling the 2nd master suite into 2-bedrooms contribute more value than it would cost? Maybe; if so, then the functional obsolescence is curable; if not, then it is incurable. If curable, it should be cured (that is the maximally productive thing to do).
How should the existing or modified structure be used and by whom? This is a question that we should always address in the case where there is an investor-flip, but it is also warranted in this scenario as well. In the investor-flip, the property usually has a certain level of repairs needed that exceeds what an owner-user would take; therefore, an investor purchase the property. What is the H&BU of that property, as-improved? It isn't "as is" (although that is what we value it as); The H&BU of the property is to renovate and re-sell it and the likely buyer of the property is an investor who will flip, and the likely user of the property afterward is either an owner-user or maybe a renter.
In the OP's case, the conversion issue is likely not sufficient enough to attract an investor, so the property will be purchased by an owner user. But, if the current bedroom conversion is functionally obsolete and it is feasible (curable) to fix it, then the H&BU of the subject, as-improved, is to renovate/remodel/alter and fix the bedroom configuration. The most likely buyer (as noted) is an owner-user who will fix and use the property for occupancy.

This is all part of the H&BU analysis. All of it. None of it can be skipped.

Identifying typically motivated buyers and any impact of functional obs is part of the valuation development. You can call it a HBU issue if you wish, but HBU was already established at start of assignment as existing/residential.

(my bold)

I hope you can see why you are incorrect in your characterization; unfortunately, you are not alone in that mischaracterization. Hopefully, this will prompt you to look deeper into the fundamental components of H&BU analysis.

 

[J Grant]

Denis, I agree with your thinking, I come to same conclusions in my work but I tend not to call it HBU all the way through, aka the latter part of the assignment, since the comp used inform what is the "ideal" improvement. (higher price sales ) vs less ideal (lower price sales/longer marketing time).Sometimes there is no difference in price between the two of course

 

[Michigan CG]

If HBU were about achieving an "ideal improvement", that would mean every dated house would be subject to upgrading,/remodeling.

Eh, not quite. It must be financially feasible to do so. When doing a H and B one must consider all four tests.