Estimate Investment Property Market Value

There are three basic methods used by appraisers to determine the fair market value of income producing property that property investors might find helpful when buying investment property.

1. Income Approach 

You use the return you desire from your cash investment and then capitalize that percentage by the net operating income being produced by the property.

For example, you desire a 8.5 percent return on your investment and you estimate the net operating income for the subject apartment to be $38,500. Here's the computation:

$38,500 / 8.5 = $452,940

You would be willing to pay $452,940 for the apartment complex based upon its income stream and your desired return on investment.

2. Market Data Approach 

The market data approach makes use of a list of properties comparable to the subject property and determines a property value-price per unit. In this case, these comparable properties should be in similar areas, with similar apartment sizes, amenities, appearance and rent structures, and should all be buildings that have sold recently.

You would then divide the prices at which each building sold by the number of units in each apartment complex to determine an average price per apartment to use as a multiplier. The average price per unit is then applied to the subject income property.

For example, you create a list of six comparable apartment complexes in the local area and determined that they sold for an average of $60,000 per apartment. By multiplying the $60,000 average unit price times the number of units in the subject property, you arrive at market value of $420,000 based on the market value approach.

3. Cost Approach 

The cost approach method estimates what it would cost to replace the entire apartment complex.

First, you must determine the land value. If a study indicates comparable land is selling for $10 a square foot and the subject property is on a 100 x 200 foot lot or 20,000 square feet, then the land is worth $200,000.

Second, you must determine what it would cost to replace the site improvements such as the parking area, lawn, shrubs, trees, etc. 

You determine it would cost about $30,000 to replace them.

Finally, you must compute what it would cost to duplicate the building. If the subject apartment complex has seven one-bedroom apartments of 600 square feet each or a total of 4,200 square feet, and it would cost $60.00 a square foot to build, then the cost of a replacement structure will be $252,000.

The total cost of a new building is $200,000 + $30,000 + $252,000 or $482,000.

But the subject income property is several years old, so we must establish a comparable by figuring a depreciated value on the $252,000.

In this case, assume the subject income property has depreciated 20 percent or $50,400. This would leave a depreciated value for the building of $201,600. To this amount, add the $30,000 in site improvements and the $200,000 land value, giving a total market value using the cost approach of $431,600.

Estimate of Market Value 

1. Income Approach: NOI of $38,500 capitalized @ 8.5% = $ 452,940

2. Market Data Approach: 7 Units @ $60,000 per unit = $ 420,000

3. Cost Approach: Land of 20,000 square feet @ $10.00 square foot = $200,000 Site Improvements = 30,000 Duplicated Building (less 20% depreciated value) = $201,600 Cost of replacement = $431,600

4. Final Estimate of Market Value = $440,000

It should be noted that the final line on the analysis is an estimate of market value. How did we arrive at it? We correlated all three of the appraisal methods and simply made a judgment by putting a slightly heavier emphasis on the income approach. Other property investors might arrive at a different estimate of market value, but you get the idea.