SW Florida Insider - Buying or Selling Commercial Real Estate? Do You Understand the Appraisal Process?

Many do not understand the process of a commercial appraisal, the time needed to complete an appraisal or the fees charged.

First of all, the appraiser and the appraisal process is governed by the laws. FIRREA, the Financial Institution Reform Recovery and Enforcement Act requires licensing appraisers for assignments which include FDIC insurance and a set of appraisal standards called USPAP or the Uniform Standards of Professional Practice. To a great extent, these standards guide the appraisal process.

It starts with a client calling me with an appraisal problem that they need solved. In order to identify the problem, we will discuss the details of the property such as type of property, owner or tenant occupied, the intended use of the appraisal, for example: internal management, financing for purchase, refinancing, estate planning etc. This will help determine the type of appraisal format.

Then I provide the client with a bid to prepare the appropriate report. When you order a commercial appraisal you are basically paying for the appraiser’s expertise and time. However the fee is affected by the:

Type of appraisal report format chosen:
The format details are defined by USPAP and typically required by the client. The appraiser has little control over the format chosen. If the client is a lender than most likely they will require a summary appraisal or self-contained appraisal due to FDIC insurance. The self-contained appraisal may be required or used for more complex reports. The restricted use appraisal is the least complex and is intended to be used only by the client and no third party (for example a property appraisal for estate taxes). The self-contained appraisal will be the most expensive, summary appraisal less expensive and restricted use appraisal the least expensive.

Complexity of the assignment:
The more complex, the greater the scope of work and the more time equals higher the fee. More complex doesn’t necessarily mean a larger property. A small property can have way more influencing factors on value, such as a mixed use with retail below and residential upstairs.

The availability of data: If a property has little or no comparable sales found than the scope work expands to find contributory value. This obviously will effect the time needed to complete a report.

The required turn-around time:
Next to required format, this is where a client has the most influence of the fee based on the date by which they need the report. An average appraisal report can take between 3–6 weeks. Considering that an appraiser cannot completely understand the scope of an assignment he or she has bid on until the actual work begins he can be at risk with his time and charges. When a short order or rush appraisal comes in it presents an even bigger risk to the appraiser who may have to over extend his hours to get the report done in time and this “rush factor” may be factored into the fee quote because USPAP states that an analysis must be completed within standards without short cuts regardless of fee or requested turn around time.

How can you save on the fee?
-If you can order your appraisals 3 or more weeks out
-Turn-around time may be the best way you can save by allowing as much time as possible and if possible avoid “rush job” situations
-If you are able to use a restricted use report
-If you have a recent appraisal of the subject property
-If you have confirmed comparable data that the appraiser can use

After the bid is accepted, typically a retainer fee is collected to start the appraisal order and then the balance owed is paid at time of delivery or in some cases, the full fee is collected up front.

The appraiser will begin the research to collect necessary information on the subject property. Some information may need to be obtained from the client such as agreement of sale, survey, leases & operating expense data.

In order to appraise a property, the appraiser must first determine the highest and best use of the subject property, which takes into account:
-How a specific use contributes to a community
-Development goals
-Beneficial use by the property owner
-Motivations of an intended purchaser.
This determination is based on the appraiser’s analytical skills and judgment. It boils down to the market value of the land and the improved property as estimated under an assumption that potential purchasers will pay a price that reflects their analysis of a use that is most profitable. A legitimate use must meet the following criteria: physically possible, legally permissible, financially feasible and maximally productive. Once the highest and best use is determined, the appraiser can apply approaches to determine value.

The appraisal typically involves 3 approaches to value. The approaches are made independently of each other and then values are reconciled and the major emphasis is placed on one or more of the approaches indications to produce the most reliable and applicable solution to the specific appraisal assignment.

The cost approach is:
-The current cost of replacing a property minus the losses from deterioration or functional or economic obsolescence.
-This approach falls under the theory of substitution,
-The premise being that a property’s optimum value cannot exceed the cost of duplicating the property on a similar site.

The cost approach consists of four steps:
1) Estimate value of the land considered as vacant and available for highest and best use utilization
2) Estimate reproduction or replacement cost of improvements (meaning buildings, amenities etc) as of the date of the appraisal plus entrepreneurial incentive and other related development cost
3) Estimate the contributory value of the improvements by deduction of accrued depreciation
4) Add land value to the value of the improvements for an indication of market value

The sales approach is:
-The value indicated by recent sales of comparable properties in the marketplace.
- It is determined by direct units of comparison where value can be converted to price per square foot, acres, room, units, income multipliers or overall rates.
-The theory with this approach is that a smart investor would not pay more for a property than what the typical market buyer would pay for a comparable property.

The Income Capitalization Approach:
- Analyzes the market value that the property’s net earning power will support based on capitalization of net income, stabilization and residual equity buildup.
- The theory with this approach is the economic principal of anticipation.
Basically, the price one would pay for a property equals the attributable value of its earning ability.

As stated earlier, in reconciliation, the appraiser considers the applicability of each of the approaches to arrive at the final estimate of value.

I hope this has been informative and if you have any questions regarding the commercial appraisal process or are in need any commercial real esate services (buying, selling, appraising) you may contact me directly 239-287-6051.

Jose R Lopez
Certified General Appraiser
Real Estate Sales Associate
Commercial Division Leader of Coastal Elite Properties

239-287-6051
Jose.CoastalEliteTeam@gmail.com
Bonita Estero Realty Corp.