Whether you’re buying or selling commercial real estate property, it’s vital to be very clear on its value. Value is defined as the most feasible price the property could reasonably earn in an active, open, and competitive market when the transaction is approached fairly and knowledgeably by both buyer and seller. There are three different methods that are used to appraise a commercial real estate property and choosing the best method for your particular investment is essential to ensuring that it is priced correctly. Let’s look at these three approaches separately.

1.Income Approach

As the name implies, the income approach focuses on the amount of income a property will generate for the new owner. This method applies to income-producing properties like office buildings, retail properties, and multifamily housing properties. 

The income approach works best for properties that have predictable expenses. With this valuation method, an investor looks at the property’s income compared to the property’s expected rate of return. 

Below are two common ways to determine a commercial property’s projected income.

2.Replacement Cost Approach

This method works best on appraisals of new property. To come up with an accurate appraisal, the appraiser must have an in-depth knowledge of both construction and material costs specific to that market.

The Cost approach determines the cost of a parcel by assuming it should be the same price as a similar building. This means the market value should equal the cost of the land, plus the cost of construction, minus any depreciation to the structure. The lack of a comparable site and similar construction materials can make the appraisal less accurate.

The Cost approach can be derived by figuring out the price of an exact duplicate. It can also be achieved by using a replacement structure with the same function but with updated materials, the latest construction methods and a more modern design.

3.Market Value Approach

This method is probably the most familiar one, especially to homeowners. The Sales Comparison method examines comparable properties sold recently in the same area. The appraiser then makes a judgement of the comps when comparing them to your commercial property.

Typically, an appraiser uses both recently sold improved properties and the list prices of current buildings up for sale. This is done because markets constantly go up and down in value.

Critical to conducting an accurate Sales Comparison approach, includes comparing projects with nearly the same characteristics, such as square footage and lot size. Finally, sales which are recent provide a more accurate appraisal conclusion.

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