Three traditional approaches to property valuation

Depending on the type of property to be appraised and the type of appraisal report to be delivered, real estate appraisers employ three different techniques for property valuation. They are the sales comparison approach or the market data approach, the cost approach and the income approach or the income capitalization approach.

The sales comparison approach or the market data approach compares the property to be valued to similar properties with similar features that have been recently sold in similar transactions, considering all such factors that affect the valuation of such property. The value of the property is usually the sum of the values of all the components of the property that affect utility.

The cost approach is based on the assumption that no prudent buyer or investor would pay more than the cost that would be incurred to build a similar or equivalent property. The method includes determination of the cost of the site, estimation of the cost of improvements and making adjustments for depreciation. The depreciation can be due to time, wear and tear, and obsolescence.

The income approach or the income capitalization approach is usually used for estimating the market value of properties that generate income such as office buildings, apartment buildings, shopping centers and warehouses. The approach is based on anticipation of income or expectation of income from the property in future. This method considers mainly two factors. One is the market rent that can be expected to be earned by the property and secondly, the resale value of the property.

Although it is not required that an appraisal process uses all the three approaches to determining the value of a property, the most reliable appraisal would be one that uses all the three techniques.

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