Chapter 9
The Cost Approach Section
The appraisal process uses three recognized approaches to value: the cost approach, the sales comparison approach, and the income approach. The income approach may or may not apply to the appraisal and will be discussed later. The cost approach is presented here.
The URAR allows you to present all information pertaining to the cost approach. If additional space is required, be sure to direct the reader to the appropriate addendum where additional discussion pertaining to the cost approach is located.
The following paragraphs illustrate the parts of the COST APPROACH section of the URAR form.
Provide adequate information for the lender/client to replicate the below cost figures and calculations.
This instruction reminds you to provide adequate information for the lender/client when filling out the remainder of the section. You do not need to write anything in the blank space to the right of the instruction.
Support for the opinion of site value (summary of comparable land sales or other methods for estimating site value).
Provide support and details of the approach used to create the opinion of site value. Example
Found two site comparables: 123 Main Street, and a vacant site on Elm Street (APN 237-458-09-00). The Main Street site is .33 acres and sold for $250,000 on 1-20-06 (Doc# 06-000121). The Elm Street site is .25 acres and sold on 12-20-05 for $225,000 (Doc # 05-012459). Also considered two house sales that had approximately the same site size as the subject, with abstracted site values of $250,000, and $260,000. The reconciled site value for the subject was determined to be $250,000.
Estimated Reproduction or Replacement Cost New
Indicate whether the analysis is for the reproduction or the replacement of the subject property. Reproduction means to create improvements that are exactly the same as the subject property, using the same materials and methods used to create the subject property. Replacement means to replace the current property with a property of the same size, quality of construction, and utility. In most cases, the analysis will be for replacement.
Example
ESTIMATED 5 REPRODUCTION OR REPLACEMENT COST NEW
Source of cost data
Identify the source of the cost data used to complete the analysis. Example
Source of cost data Marshall and Swift Residential Cost Handbook. The appraiser also discussed the replacement cost with a local building contractor.
Quality rating from cost service
When a cost service is used, provide the name of the cost service, edition, and date of the update used. Be sure to note the pages and quality ratings used to select
Effective date of cost data
Enter the effective date of the data used to complete the analysis. Example
Quality rating from cost service good Effective date of cost data 12/2004
Comments on Cost Approach (gross living area calculations, depreciation, etc.)
State the sources of data, explain your analysis, and support your conclusions within the cost approach.
Example
Comments on Cost Approach (gross living area calculations, depreciation, etc.)
Replacement costs estimated via the Marshall and Swift Residential Cost Handbook. Land value estimated by the abstraction method due to a scarcity of comparable vacant land sales. Land value to improvements ratio is typical of the area. Indirect costs are calculated at 5% of direct costs. Profit is calculated at 10% of land and improvement costs.
Estimated Remaining Economic Life (HUD and VA)
This is an estimation of how many years the property will continue to yield a return (commercial property) or have value greater than the cost to renovate (commercial and residential). Determine this by subtracting the effective age from the estimated economic life.
Example
Estimated Remaining Economic Life (HUD and VA only) 50 years
Opinion of site value
This item can be determined by comparison or by abstraction. Example
Estimated reproduction cost-new of improvements
This builds in cost per square foot of above-grade living areas as well as garage/carport. Cost handbooks typically do not include the entrepreneurial profit and indirect costs, so enter indirect costs and profits in the additional blank lines.
Example
DWELLING 1260 Sq. Ft. @ $ 70.93... =$ 89,372
Indirect costs Sq. Ft. @ ………… =$ 15,000 Profits @ 10% of land and improvements =$ 30,000
Garage/Carport 482 Sq. Ft. @ $ 9.27………... =$ 9,288 Total Estimate of Cost-New ………..… =$ 143,660
Less Depreciation
Physical depreciation is based on an estimate of effective age and remaining economic life. Functional obsolescence is usually based on cost to cure or paired sales analysis. External obsolescence may be based on paired sales analysis.
Example
Less Physical Functional External
Depreciation $50,281 $ 0 $ 0 =$( 50,281 )
Depreciated Cost of Improvements
Calculate this value by subtracting the accrued depreciation from the cost new of the improvements. Your software appraisal program makes this calculation.
Example
Total Estimate of Cost-New ………..… =$ 143,660 Less Physical Functional External
Depreciation $50,281 $ 0 $0 =$( 50,281 ) Depreciated Cost of Improvements………..……….…….=$ 93,379
“As-is” Value of Site Improvements
Site improvements include items such as grading and site preparation, utility installation, retaining walls, landscaping, and hardscape. You can find their cost in the cost handbook. Pools often suffer from functional obsolescence since they usually are
Example
Total Estimate of Cost-New ………..… =$ 143,660 Less Physical Functional External
Depreciation $50,281 $ 0 $0 =$( 50,281 ) Depreciated Cost of Improvements………..……….…….=$ 93,379
“As-is” Value of Site Improvements………..………...=$ 7,000
Indicated Value by Cost Approach
Calculate the value according to the cost approach by adding the site value, the depreciated value of the improvements, and the “as is” value of site improvements. Example
Opinion of Site Value ………..… =$ 200,000 Total Estimate of Cost-New ………..… =$ 143,660 Less
Physical Functional External Depreciation
$50,281 $ 0 $0 =$( 50,281 )
Depreciated Cost of Improvements………..………..=$ 93,379 “As-is” Value of Site Improvements………..………=$ 7,000 INDICATED VALUE BY COST APPROACH ……… $ 300,000
Chapter 9 Review Exercise
Instructions: Using the information provided, complete the blank URAR Cost
Approach section. Check your work using the Answer Key in Appendix A.
The dwelling is a rectangle measuring 50 feet wide by 33.6 feet deep. There is a concrete patio measuring 25 feet by 15 feet. There is a detached garage measuring 25 feet by 25 feet. The backyard is enclosed by a cinderblock wall. The property also includes an in-ground, heated, concrete spa.
The appraiser used the Marshall and Swift Residential Cost Handbook to estimate the cost of replacing this property; its quality is considered good and reliable. The handbook is dated December, 2004. The quality of construction used is average. Cost estimates are based on $80 per square foot for residential construction of this quality and $30 per square foot for the detached garage.
The subject is 17 years old and in excellent condition. Depreciation due to physical deterioration is estimated at 10%. There is no evidence of functional or external obsolescence.
The site value was calculated by sales comparison with comparable properties in the area and is estimated at $60,000 including all utilities, grading, and concrete curbs and gutters. The value “as is” for the site improvements not considered in any other category (such as the driveway, landscaping, patio, and spa) is estimated to be $15,000.
