Appraising Apartment Buildings
7 hours of Continuing Education
BREA Approval #pending
For the course schedule, or to enroll in this course, click here.
The course is intended to give a basic understanding in appraising apartment buildings. It assumes that the student has a good understanding of appraisal principles. It is divided into eleven (11) sections:
- Section A begins with a brief summary of appraiser requirements and qualifications for accepting an assignment. The Competency Rule from USPAP 2014-2015 is paraphrased along with the limitations of each license designation.
- Section B lists the different types of value in an assignment and gives a brief description.
- Section C lists the types of value being appraised along with a brief description.
- Section D covers laws and regulations affecting apartment buildings. They include zoning, local building codes, and rent control. Zoning covers lot density issues. Emphasis is placed on describing the correct lot density requirements in order complete a proper highest and best use analysis. Properties can become legal and nonconforming due to downzoning. An example is given of how a change in zoning can affect a property’s permitted use.
Local building codes are designed to insure property compliance with health and safety issues covering fire safety, ingress/egress, signage, and ADA compliance. Issues covering this area are listed.
Rent control ordinances set the maximum allowable rent increase on residential units. Depending on the local municipality, it may also cover areas including tenant relocation and capital improvements. Due to the variations in such ordinances, the local governing authority should be consulted on the specific requirements. An example is given on a nonconforming property subject to rent control.
- Section E describes the types of leases. It begins with a definition of a lease. A differentiation is made between a periodic tenancy and short-term leases, subleases, and the obligations of a sublessor. The section also discusses shared tenancies, student housing, and the controversial issue of regulating shared tenancies Finally, the types of leases are listed. They are the gross lease, modified gross lease, and triple net lease. These leases are defined. Examples are given of how lease terms, location, amenities, and unit features can affect rental rates for both apartment and retail buildings.
- Section F covers property characteristics beginning with the definition of a site, a description of site characteristics which include size, shape, topography, and highest and best use issues. Property characteristics includes describing the improvements beginning with building design. A brief description is provided for low-rise buildings, garden, high-rise, and bungalows. Differences are pointed out between wood-frame and brick construction and center-hall buildings and their potential effect on rental rates and operating expenses. Building amenities may enhance property values and include pool, spa, laundry facilities, parking and security. Differences are pointed out between a building’s gross building area, rentable area, master-metered buildings, and buildings that have individually metered units.
- Section G discusses the methodology in forecasting income. The potential gross income is defined. It includes income from all sources. In addition to rental income, income from laundry use, parking, and storage spaces are also included. An example of a property’s rent roll is given with a description on how to complete a rent survey. After a rent survey is completed, the contract rents must be stabilized by comparing contract rents with market rents. Stabilizing occupancy requires that contract rents be adjusted to reflect market rates. Student housing is described. A sample rent roll for student housing and typical tenancy are provided with a description on how to adjust contract rents to market rates.
- Section H discuss the Market Approach which includes a description of a building’s elements of comparison. The elements of comparison of comparable data are compared with the subject property’s in order to estimate the subject property’s market indicators. Market indicators include the Gross Annual Income Multiplier (GAIM), price per unit, price per room, and price per gross building area. A table of comparable data is provided with a description on how to calculate the market indicators. A qualitative analysis of the comparable data is completed with an explanation on how the elements of comparison can affect the market indicators. Location influence, rental rates at below-market levels, and property upgrades can affect the market indicators. For additional support, an Income Market Ratio Analysis can be completed. An example is provided followed by a discussion on how ratios are statistical analyses that do not consider the elements of comparison and how to explain the difference in values resulting between statistical results and a qualitative analysis.
- Section I covers the Income Approach. The income ladder is provided. It beings with subtracting an appropriate vacancy factor from the potential gross income. Operating expenses are then deducted to arrive to the net operating income. After forecasting a property’s potential gross income, the vacancy factor can be estimated by direct market comparison, interviews with property managers and owners, and by published data. A description of operating expenses are provided with an explanation of each expense item. An operating expense statement is taken from a sample report along with a detailed explanation on each expense item and rationale for arriving at the forecasted figures. An explanation is given for differences between actual and forecasted figures. A scenario is provided where a subject property’s operating expenses are not provided and the steps taken to estimate expenses through market comparison of the comparable data with additional support from published data on the apartment building industry expense guidelines.
After forecasting a property’s net operating income for one year, it is capitalized at a rate derived from the market data to arrive to an estimated value. The capitalization rate incorporates the rate of return to an investor based on the equity (equity rate) and a rate of return to a lender which is the cost of extending credit (interest rate). A risk factor is associated with both rates. The capitalization rate for apartment buildings interpolate the overall risk of a property into an overall rate. In an appraisal assignment, the appraiser must identify the potential risks and their effect on marketability and the property’s income producing capability. Potential risks include a) above-market rents resulting in vacant units where more affordable housing becomes an issue, b) deferred maintenance which reduces property appeal resulting in vacancies , c) low operating expenses which could be the result of deferred maintenance, and d) location influences such as proximity to industrial buildings or street traffic which can result in a loss in income. An example of each risk factor is provided with the potential impact on income.
Reducing risk involves taking steps to offset potential losses. For example, inferior location could be offset by reducing rent levels. A sales comparable grid is presented with their respective operating expense ratios and capitalization rates. The sales data is reconciled through a qualitative analysis describing how the capitalization rates are affected by potential risk factors such as high rents, low expense ratios, inferior condition, and inferior location. Based on the analysis, the information is correlated to the subject property’s potential risk factors in order to determine a capitalization rate for the subject property. Market reports could also be used for additional support.
- Section J is a brief summary of the Cost Approach differentiating between replacement cost and reproduction cost. Any leasehold interest is deducted from the final cost estimate.
- Section K discusses the reconciliation process by correlating the three approaches (Market, Cost, and Income) into a single value. Depending on the scope of the assignment, one approach to value may be given more weight over the others or all three can be given equal weight.
The final value estimate is the “as-is” value. If a property has repairs and a cost estimate is provided, then the as-is and as-repaired values are stated in the reconciliation.
Any assignment conditions should be stated as well. This includes any contingencies such as required repairs and/or inspections. Any rent loss attributed to substantial repairs should also be stated. A scenario is provided where a property suffers substantial damage resulting in a loss in income. Rent loss calculations are described and included with the overall cost to cure figures.
For the course schedule, or to enroll in this course, click here.