I.

Rental Method of Valuation

Rental method of valuation is the type of valuation mostly used for fixing up the taxes. In
this method, the net rental income is calculated by deducting all the expenses from the
gross rent and the obtained net rent is then multiplied with the year's purchase to obtain
the value of the property. The general formula used is,

Capitalized value= Net rent * Year's Purchase

Where, Net rent = Gross rent-outgoings

Example:

The gross rent according to a property is Rs. 20,000/- p.a. Allowing 10% as
deductions for repair and maintenance of the property. Determine the rental
value of the property at an interest of 10%.

Solution,

Gross rent collected p.a. = Rs. 20,000/

Expense = 10% of the gross rent collected (Since, 10% of the rent is used in
repair & maintenance) = 10% of 20,000 = Rs. 2,000

Hence, the net rent collected p.a. = Rs. 20,000 - Rs. 2,000 = Rs. 18,000

Now,

Year's Purchase = 100/10=10 (Considering year's purchase for a long time)

Thus,

Capitalized Value = Net rent * Year's purchase = Rs. 18,000 * 10 = Rs. 1, 80,
000

II. Profit Based Method of Valuation

Profit based method of valuation is similar to the rental method of valuation. It is a widely used
method for valuation of profitbased properties such as cinema halls, shopping malls etc. In this
method, the net profit is first calculated after deducting all the expenses which are then
multiplied with the year's purchase to obtain the capitalized value.

Example: Determine the valuation of a cinema house if the cost of land is Rs.
1,20,000. Gross income per year is Rs. 7,50,000. Expenses required per year
include: a) Taxes and charges are 30% of gross income. b) Repair and
maintenance cost is 5% of the capital cost of Rs. 9,50,000. c) Sinking fund as in
25 years at 4% after allowing 10% scrap value. d) The insurance premium is Rs.
10,000 per year. Assume year's purchase for 60 years at 8% and redemption
capital at 4%, annual repair of the house at 2% on gross income.

Solution, Gross income per year = Rs. 7,50,000

a) Taxes and charges = 30% of gross income = 30% of 7,50,000 =

Rs. 2,25,000
b) Repair and maintenance charge= 5% of Rs. 9,50,000 = Rs. 47,500

c) Fund after 10 % Scarp value = Rs. 9,50,000 * 9/10 = Rs. 8,55,000

Sinking fund coefficient = 0.047 {((1+0.04) ^25) -1}= 0.24

Hence, Sinking fund = Rs. 8,55,000 * 0.024 = Rs. 20,520

d) Insurance premium per year= Rs. 10,000

e) The yearly charge for annual repair = 2% of gross income = Rs. 15,000

Hence, total expenses = Rs. 3,18,000 (obtained by adding each expense)

Net income = Gross income - expenses = Rs. 7,50,000 - Rs. 3,18,020 = Rs. 4,31,980

Now,

year's purchase = 1/ (R + Sc)

Where,

R = 8% = 0.08 Coeffecient of sinking fund (Sc) = 0.047{[( 1+0.04) ^60)-1} = 0.0042

Hence,

year's purchase = 1/(R + SC ) = 11.88

Capital value = Rs. 4,31,980 * 11.88 = Rs. 51,31,922 Value of building = Rs.
51,31,922 + Rs. 1,20,000 = Rs. 52,51,922

Note: Formulas used

• In case of life of property is anticipated to be short

and to account the accumulation of sinking fund and interest on income of the property
to replace
capital, the year's Purchase is suitably reduced. - Years Purchase (Y.P) = 1/
(R+S)

Example: Calculate the value of years purchase for a

property if its life is 20 yrs and the rate of interest

is 5%. For sinking fund the rate of interest is 4.5%

Soln:

Here, R=5%, R1 = 4.5%

Y.P =1/(R+S)

Coeff. Of sinking fund (Sc)=R1/((1+R1)n-1)=0.0319

Y.P=1/(0.05+0.319)=12.21