Chapter 5
Market Determinants of Value
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Real Estate
FIN 331
Fall 2013
Real Estate Valuation Issues
A. Some Key Issues
1.
2.
3.
4.
5.
Financing
Listing
Investment Analysis
Insurance (Liability, Flood, Windstorm)
Property taxes
B. Value versus Price
1. Value = present worth of future benefits
2. Benefits of ownership realized over a long period
of time
Real Estate Valuation Issues
C. Four Elements of Value
1. Demand - the desire or need for ownership
supported by the financial means to satisfy the
desire;
2. Utility - the ability to satisfy future owners'
desires and needs;
3. Scarcity - the finite supply of competing
properties and
4. Transferability - the ease with which ownership
rights are transferred.
Real Estate Valuation Issues
A. Value vs. Cost vs. Price
1. Value is not necessarily equal to cost or price.
2. Cost: out-of-pocket expenses
3. Price: what a person is willing to pay
a. Value and Price are not always the same.
b. Impact of flaws on price
B. Market value
1. Normally the result of an appraisal on a
specific date (conditions change all the time)
IRS Issues
A. IRS Publication 561
1. The governing tax code publication for fair market
value of real estate is IRS Publication 561. This
publication deals with all kinds of property
valuations, such as cars, boats, collections, used
clothing, securities, patents, annuities and many
others, but it does not set aside a section for
determining real estate market value.
2. Publication 561 explicitly states "a detailed appraisal
by a professional appraiser is necessary" for proper
valuation. Three approaches are considered
acceptable by the appraiser: the comparable sales
approach, capitalization of income approach or the
replacement cost new method.
BASIC ATTRIBUTES OF REAL
PROPERTY
A. Five Attributes of Real Estate (land)
1. Unique in location—no two parcels are
identical in terms of location.
2. Unique in composition—no two parcels are
identical in their geological composition.
3. Durable—land is long-lasting.
4. Finite in supply—no more land is being
created (reductions in usable land).
5. Useful—land has use or utility to people.
Four Major Forces Influencing Real
Estate Values
A. Social Trends:
1.
2.
3.
4.
5.
Trends in population growth and migration
Family composition
Aging of population
More people working at home
Amenities supporting leisure time (swimming
pools, tennis courts, etc.)
6. Security Consciousness (low crime rates, gated
communities)
7. Environmental awareness (Energy efficiency,
water conservation, recycling)
Four Major Forces Influencing Real
Estate Values
B. Economic Forces
1. Changes in income levels
2. Availability of good jobs, stable employment
opportunities
3. Cost of construction
4. Availability and cost of credit
5. Cost of utilities; electric, gas
Four Major Forces Influencing Real
Estate Values
C. Physical / Environmental Forces
1. Location, Location, Location!
2. Access to public transportation,
infrastructure
3. Topography (rolling hills vs. flat treeless
land)
4. Weather (northern vs. southern vs. mid-west
vs. southwest vs. Pacific)
Four Major Forces Influencing Real
Estate Values
D. Government
1. State and Local employment taxes
2. Monetary Policy (effects on interest rates and
credit availability)
3. Real Estate Taxes and Assessments
4. Zoning restrictions
5. Quality of schools
6. Availability and quality of services: Police,
Fire, Health Care
Basic Valuation Forces
A. Supply of and Demand for Properties
1. Supply and Demand tend to be fluid.
2. Supply tends to follow upward price
movements
3. Demand trends downward when costs are
high
4. Fairness of Valuation tends to clear the
markets (interest rates also a factor)
Impact of Risk on Valuation
A. Ways to minimize market risk
1. Avoid projects with high market risk
a. Most hotels and motels
b. Restaurants and entertainment facilities
c. Properties in distressed areas
2. Avoid projects with prospective major changes
a. Lease rollover for major tenants
b. Major renovations
3. Study the macro market environment
a. Are there changes in land usage?
b. Is the area undergoing gentrification?
c. Is industry moving into the area?
City vs. Country
A. Cities grow vertically, suburbs grow horizontally
B. Cities tend to have higher taxes: city wage taxes,
additional sales tax, greater millage rates
1. Some reasons for higher tax burdens: declining
industrial activity
2. Unionized municipal employees typically increases
cost of municipal services
3. Requirement to operate and maintain city owned
transportation (buses, subways)
C. Cities offer better access to convenience services;
shops, restaurants, etc. easy walk distance.
D. Cities offer greater variety of entertainment
venues
Homework Assignment
Key terms:
Economic base (p. 102),
Comparison activities (p 121)
Study Questions:
1. What are the four elements of value.
2. What are the five (5) attributes of Real Estate (land, buildings)?
3. Describe briefly the four major forces influencing real estate values?
a. Economic Forces
b. Social Forces
c. Environmental Forces
d. Governmental Forces
4. What effect do changes in Supply have on prices (~values)?
5. What effect do changes in Demand have on prices (~values)?
6. List at least 5 major economic base activities in Wilmington, NC.
7. Using the US Census Web-Site: What is the distribution of income for Wilmington/New Hanover
County and North Carolina? Why are there differences in distribution?
a. NC: http://quickfacts.census.gov/qfd/states/37000.html
b. NHC: http://quickfacts.census.gov/qfd/states/37/37129.html
c. Wilmington: http://quickfacts.census.gov/qfd/states/37/3774440.html