What’s the Best Way to Determine the Value of Your Real Estate?
The Smithsonian’s website on violin authentication and appraisals says, “PLEASE DO NOT SEND YOUR INSTRUMENT TO THE SMITHSONIAN.” The site continues to warn, “The presence of a label with a famous maker name or date has no bearing on whether the instrument is genuine.”
Florian Leonhard, a luthier in London and New York, equates his work to that of a detective evaluating suspects of a crime. Leonhard explains that violin authentication can require that he study an instrument for days. Subtleties in the curve of the violin’s scroll, the shape of the f holes, and the sheen of the violin’s varnish all provide clues. Even minute differences in tool marks can differentiate violins from different makers.
Once a luthier determines the violin’s provenance, they can issue a certificate of authenticity. That certificate isn’t a guarantee–it’s only the luthier’s opinion of the violin’s provenance. Since people rely upon certificates of authenticity, many luthiers are reluctant to provide them for instruments they didn’t sell.
Few violin owners need certificates of authenticity. Most owners want something that enables them to insure their instruments–an insurance appraisal.
Insurance appraisals give only the luthier’s opinion of the instrument’s value. For an instrument from a famous maker, the appraisal is based upon another luthier’s certificate of authenticity. Insurance appraisals also don’t guarantee that the instrument could be sold for the value indicated.
As with violins, real estate owners can obtain different documents regarding a property’s value. Licensed real estate professionals can provide several types of opinions regarding a property’s value. Real estate brokers may provide a broker opinion of value (BOV), sometimes called a broker price opinion (BPO), or a competitive market analysis (sometimes called a comparative market analysis) (CMA). Real estate appraisers provide appraisals. This article discusses the differences between appraisals, BOVs, and CMAs, and how a real estate owner can decide which best meets their needs.
What’s the Difference Between a Real Estate Broker and a Real Estate Appraiser?
To understand the difference between appraisals, BOVs, and CMAs, it helps to understand the difference between the professionals that issue them. Both real estate brokers and real estate appraisers must complete education and pass a test to receive a license. But brokers and appraisers provide different services.
Real estate brokerage services vary slightly from state to state. Maryland’s real estate brokerage law (where I’m licensed) defines real estate brokerage services as doing the following another person for compensation:
Selling, buying, exchanging, or leasing real estate
Collecting rent for the use of real estate
Assisting that person to locate or obtain real estate for purchase or lease
In Maryland, the following also are real estate brokerage services:
Engaging regularly in the business of dealing in real estate or leases or options on real estate
Engaging in a business whose primary purpose is to promote the sale of real estate through a listing in a publication issued primarily to promote real estate sales
Engaging in a business that subdivides land located in any state and sells the divided lots
For compensation, acting as a consultant for any activity that otherwise is real estate brokerage services.
Maryland has two types of real estate licenses: salesperson and broker. To obtain a salesperson license, one must take 60 hours of education plus pass an exam. A broker’s license requires passing an additional test, typically after broker-specific education and three years of experience as a salesperson.
Maryland’s real estate appraiser law defines real estate appraiser as someone who provides “an analysis, conclusions, or opinion about the nature, quality, utility, or value of interests in or aspects of identified real estate.” There are several types of real estate appraiser licenses in Maryland. All require 150-300 hours of education, plus over 2,000 hours of appraisal work experience (frequently as an appraiser trainee) over a two-year period.
Besides being licensed, many appraisers also have a professional designation from the Appraisal Institute. The best known of those designations, the MAI, requires that the appraiser meet additional educational requirements, complete additional education, and pass a certification exam.
Generally, a real estate broker provides services in the purchase, sale, or lease of real estate. On the other hand, appraisers are solely involved in providing services about the value, quality, and utility of real estate.
BOVs, BPOs, and CMAs
Although brokers aren’t in the real estate valuation business, they must evaluate property values when assisting clients with purchases and sales. State real estate brokerage laws vary on the types of property value assessments brokers can provide. For instance, Maryland only allows brokers to analyze property value through a competitive market analysis (CMA).
The primary purpose of a CMA is most frequently to determine the listing price for a property. When preparing a CMA, a broker reviews recently sold properties to identify comparable properties. For a house, comparable properties would be the same size, have the same number of bedrooms and bathrooms, be on similarly-sized lots, be close to, ideally in the same subdivision and school attendance area, and be in a similar condition.
Once the broker identifies comparable properties that recently have sold, the broker can prepare a CMA. Since the CMA is based upon the sale prices of comparable prices, a CMA is supposed to represent a good indication of the price a property would fetch if sold.
The terms BOV and BPO are used largely interchangeably. Some brokers and regulators prefer BPO to highlight that brokers work in pricing real estate for purchase or sale, not valuing it like appraisers. In this article, I’ll use BPO to refer to both BOVs and BPOs.
A BPO differs from a CMA. A BPO is an actual estimate of the property’s value, which may or may not be the current market value. A broker will consider the sale prices of comparable properties when preparing a BPO. The broker will also consider additional factors, such as “curb appeal,” the specific location of a property, and broader sale trends in the neighborhood.
Appraisals
Commercial real estate appraisals usually value real estate using three approaches: sales approach, income approach, and cost approach. The final appraised value frequently is the average of the value computed with each of the three methods. Residential appraisals for mortgage lenders usually are completed on the Uniform Residential Appraisal Report.
The sales approach is similar to a CMA. The appraiser establishes a value based upon recent sale prices of comparable properties.
The income approach also requires evaluating the market. But instead of evaluating recent sales prices, the appraiser evaluates the income capitalization rates (Cap Rate) on comparable properties.
The Cap Rate, which is determined by dividing the property’s annual net operating income (NOI) by the sale price, is expressed as a percentage. That percentage represents the rate of return (similar to interest rate) that investors in the market require from similar properties.
Determining a Cap Rate isn’t an exact science. Although the Cap Rate incorporates factors such as asset class and geographic desirability, interest rates or rates of return available on non-real-estate investments may affect Cap Rates.
Once the appraiser establishes the appropriate Cap Rate, they apply that rate to the NOI for the property they are appraising. At the risk of oversimplifying, the property value would be the NOI divided by the Cap Rate.
The final method of valuing commercial real estate is the cost approach. To determine the cost approach, the appraiser first determines the land value – what it would be worth if there were no buildings on it. Then, the appraiser determines what it would cost for new construction of buildings of the same size, construction quality, and finish quality. The real estate’s value under the cost approach will be the land value plus the cost of reconstructing the buildings anew.
For commercial properties, besides the sales, income, and cost approaches, sometimes, appraisals will give both a current value and a forecasted value when the property is stabilized or operating at expected capacity. Forecasted values are common for new construction. Or an owner of a distressed property planning capital improvements might seek a forecasted valuation show prospective lenders that the improvements will increase the property’s revenue sufficiently to support their cost.
Sometimes, commercial real estate is inextricably tied to a business, such as assisted living (where the owner provides both a place to live and meals and personal care services). In those instances, sometimes, the appraiser may attempt to appraise the real estate separate from the business.
How Much Will It Cost?
In some states, brokers aren’t allowed to charge for a BOV, BPO, or CMA. Even when brokers may charge for them, many brokers provide BOVs, BPOs, and CMAs as a marketing approach to encourage owners to list their property for sale with the broker. But even when brokers charge for a BOV, BPO, or CMA, the cost is usually minimal.
Because appraisals require more expertise and evaluation than BPOs, BOVs, or CMAs, they cost more. A residential appraisal may cost only a few hundred dollars, whereas commercial real estate appraisal is likely to cost upwards of $2,500. For large commercial properties, an appraisal can cost $10,000 or more.
Professional violinists usually have to pay for appraisals to satisfy insurance company requirements. Likewise, most owners will need to pay for an appraisal at some point in time because mortgage lenders nearly always require them.
© 2020 by Elizabeth A. Whitman
Any references clients and their legal situations have been modified to protect client confidentiality
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