California Real Estate SalespersonProperty Valuation and Financial AnalysisHard
An appraiser is determining the value of a vacant commercial lot. The appraiser estimates that if a new building were constructed on the lot, it would generate a Net Operating Income (NOI) of $100,000 per year. The building's value, if newly constructed, is estimated at $800,000. The market capitalization rate for similar properties is 8%. Using the land residual technique, what is the estimated value of the vacant lot?
- A$500,000
- B$450,000
- C$1,250,000
- D$200,000
Show answer & explanationAnswer & explanation
Correct answer: B. $450,000
First, calculate the income attributable to the building: $800,000 (building value) * 0.08 (cap rate) = $64,000. Next, find the income attributable to the land: $100,000 (total NOI) - $64,000 (building income) = $36,000. Finally, capitalize the land's income to find its value: $36,000 / 0.08 (cap rate) = $450,000.
Why the other options are wrong
- A. This is an incorrect calculation, possibly using a different cap rate for the land or making a math error.
- C. This would be the total property value if the entire NOI was capitalized without deducting building value.
- D. This is an incorrect calculation, possibly subtracting building value from NOI directly or making a math error.
Land Residual Technique
An income capitalization method used to estimate the value of land, assuming a new building is constructed, by deducting the income attributable to the building from the total NOI and then capitalizing the residual income to the land.
- Used when land value is unknown but building value and total NOI are estimable
- Income attributable to building = Building Value × Capitalization Rate
- Land Value = (Total NOI - Income Attributable to Building) / Capitalization Rate
Memory trick: Total Income minus Building's Share, Leaves Land's Income to Bear.