Real Estate Investing: Property Replacement Value
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Real Estate Investing: Property Replacement Value

While this is particularly useful when the property is brand new, it becomes decreasingly useful as the property ages. It's typically done by separating the value for the land from the cost of the building. Some investors, a minority, will only move forward on the basis of a professional appraisal. Others will rely on their own or their agent's appraisal. And some simply act on their own gut feelings.
                            real estate property

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What is the replacement value?

Here we determine value based on how much it would cost to replace a property. While this is particularly useful when the property is brand new, it becomes decreasingly useful as the property ages. It's typically done by separating the value for the land from the cost of the building. For example, the lot a house is on might cost $600,000. (This figure should be obtained by checking comps for similar lots, if any are available.) The house, on the other hand, might cost $350,000 to replace if built from scratch. Thus the combined value of house and lot might be $950,000. For a just-completed house, this can be quite accurate, since that's probably very close to how much it would cost to replace this house on another similar lot. (Remember, the value of a new property usually is determined by the combined value of the lot and the house on it.) For an older house, the technique is less accurate. The reason is that it becomes difficult to accurately estimate replacement cost. (Bare lot cost, on the other hand, can usually be determined quite accurately.) The reason is that as homes grow older, they also grow increasingly obsolete. A home that's 25 years old, for example, is likely to have out-of-date bathrooms and kitchen as well as out-of-date windows (single pane), insulation (not enough), heating/air (too expensive to run), and so on. Thus, the replacement cost of the home (not the lot) is likely to be much higher than the value of the existing building. Using replacement cost on an old structure is likely to give you a value that's too high.

Should I get a professional appraisal?

Some investors, a minority, will only move forward on the basis of a professional appraisal. Others will rely on their own or their agent's appraisal. And some simply act on their own gut feelings. It's important to remember two things about a professional appraisal. First, it can be expensive. On a single-family home, it now costs upwards of $350 to $450. On a commercial, office-building, or industrial property it can cost far more depending on the size of the building, the number of tenants, and other factors. Second, while appraisers are usually licensed, have had extensive training and experience, and belong to trade organizations that help keep them up to date on the latest techniques, what they give is still basically an opinion. It's usually an opinion based on well-accepted appraisal techniques and produced in a written report, but it's still an opinion. It's not a sale. (Usually lenders will demand a formal appraisal as a condition of offering financing.)

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