REAL ESTATE PRINCIPLES

RE101

Appraisal

Appraisal: An estimate or opinion of property’s value.

To have value, an item must have four basic attributes that are known as the elements
of value.
Utility: Filling a need or serving a purpose.
Scarcity: In relatively short supply, or difficult to obtain.
Demand: Producing a desire to own. (Effective demand refers to the desire of those
with purchasing power.)
Transferability: Possession and ownership rights can be transferred.
Generally, the more useful and scarce the item, the greater the demand and the higher
the value (provided the item is transferable)

Value: Value can be defined as the present worth of future benefits.

It can also be defined as an item’s ability to command other items in exchange. Another
definition of value is the relationship between a desired thing and the person who desires it.
Elements of Value: To have value, an item must have four characteristics called the
elements of value. Demand, Utility, Scarcity and Transferability
Value in Use: Value in use reflects how useful the property is to a particular person, the
owner. Value in use is also called utility value.
Market Value: The most probable price the property should bring under all conditions
needed for a fair sale. Market value is also called value in exchange.
Normal Sale Conditions: The property was offered on the open market for a reasonable
length of time; both parties acted prudently and knowledgeably; and neither party was subject to
any undue stimulus or urgent pressure. Also, a sale between unrelated parties.

Economic Life and Physical Life: Note that every property has both a physical life cycle and
an economic life cycle. The period during which the land and its improvements are profitable is
called the property's economic life. The property's physical life refers to the structural integrity
of the improvements on the property. The economic life of a property typically ends before its
physical life.
 Principles of Value

Highest and Best Use: A property's highest and best use is the use that would bring
the owner the greatest net return. This consideration is especially important in the
appraisal of income property—property that generates income for the owner. An
appraiser must take into account the public and private restrictions (such as zoning and
CC&Rs) that apply to the property.
The highest and best use cannot be an illegal use. The highest and best use is the use
which, at the time of appraisal, is the most likely to produce the greatest net return from
the property.
Change: The principle of change is concerned with how a property’s value increases
and decreases over time. Property is always in a state of flux. This is why every
appraisal is tied to a given date, called the effective date of the appraisal. A property's
value changes constantly, in response to shifting social, economic, governmental, and
environmental forces. Its value also changes as the property itself improves or
deteriorates over time.
Anticipation: People buy property in anticipation of receiving benefits from it in the
future. For instance, a couple might buy a house anticipating that it will appreciate in
value while providing them a place to raise their family. It is those anticipated benefits
that create value. This is the principle of anticipation. Will the zoning laws that apply to
the property change? Is the region’s economy heading for a downturn? Will the
surrounding property owners maintain or neglect their homes? If people expect the
value of certain properties to increase in the future, that has a positive effect on the
present value of those properties.
But if people expect property values to decline, that tends to lower their present value.
An appraiser must consider not only the present state of the property, but how it may
change in the future.
Supply and Demand: Appraisers borrow the principle of supply and demand from
general economic theory. When the demand for a product exceeds the available
supply, the value of the product will increase. If the supply exceeds the demand, the
value of the product will decrease. As the demand for housing in a specific location
increases, the market value of houses there will rise. In response to the increased
demand, developers will build more houses. Then as the supply increases, the market
value of the houses will fall.
Substitution: The principle of substitution states that the value of a piece of property
is limited by the cost of obtaining an equally desirable substitute. Unless it would take
significantly longer to obtain the substitute, it doesn't make sense to pay more for a
property than you'd have to pay for another property that's just as good. Another way to
look at it is that if two available properties are equally desirable, the one that costs less
will be purchased first. The principle of substitution is the basis for all three methods of
appraisal that most real estate agents abide by.
Conformity: A reasonable degree of conformity among the property has a positive
effect on their value. This is especially true for residential neighborhoods. While some
variety is desirable, if there’s great disparity between the quality and condition of
neighboring homes, that tends to depress property values.
Progression/Regression: The value of a property is also affected by the company it keeps,
an unattractive, inexpensive, or poorly maintained home is generally worth more in a
neighborhood of better homes than it would be in a neighborhood of similar homes. This is the
principle of progression; conversely, an expensive, well-kept home is worth less in a
neighborhood of inexpensive or rundown homes than it would be if it were surrounded by other
high-end properties, this is the principle of regression.
Contribution: The Principle of Contribution concerns how improvements made to property
affect its value. When a property owner makes improvements; buildings, new structures,
remodeling, and so on… the improvements usually increase the property’s value. However, any
given improvement may contribute less to the value of the property than it cost to make.
Overall, an improvement may contribute less or more to the value of the property than it costs.
Competition: The value of property is affected by competition. Every property competes
with other properties of the same type.
Balance: The principle of balance holds that the value of a property is maximized when the
agents in production are in balance with each other. The agents in production are labor,
coordination, capital, and land.

The appraiser's fee must be set before the appraisal is performed, based on the anticipated
difficulty of the appraisal.

The fee cannot be tied to how much the appraiser concludes the property is worth.

It is not necessary to include the amount of the appraiser's fee in the appraisal report itself.