The subject property has annual EGI of $150,000. Annual operating expenses, excluding debt service, total $45,000. Using a 9% overall rate, what is the indicated value, rounded to the nearest dollar?
Correct Answer
B) $1,166,667
(150000−45000)÷0.09 = 1166666.67. Common errors: capitalizing EGI instead of NOI gives $1,666,667; misplacing the decimal in the 9% rate gives $116,667; adding the expenses instead of deducting them gives $2,166,667.
Why This Is the Correct Answer
Option B is correct because NOI is $150,000 − $45,000 = $105,000, and $105,000 ÷ 0.09 = $1,166,666.67, or $1,166,667 rounded. Direct capitalization applies the overall rate to NOI, not to EGI. Debt service is properly excluded from the expenses.
Why the Other Options Are Wrong
Option A: $116,667
Option A, $116,667, results from misplacing the decimal and dividing NOI by 0.9: ($150,000 − $45,000) ÷ 0.9. The correct calculation is $105,000 ÷ 0.09 = $1,166,667.
Option C: $1,666,667
Option C, $1,666,667, capitalizes EGI instead of NOI: $150,000 ÷ 0.09. Expenses must be deducted first, giving $105,000 ÷ 0.09 = $1,166,667.
Option D: $2,166,667
Option D, $2,166,667, adds the expenses instead of deducting them: ($150,000 + $45,000) ÷ 0.09. The correct NOI is $150,000 − $45,000 = $105,000, which capitalizes to $1,166,667.
P, E, N, then Value
Potential gross income minus losses gives Effective gross income; minus operating expenses gives NOI; NOI divided by the rate gives Value.
How to use: Use this sequence to check that you capitalize the right income line.
Exam Tip
Confirm the income line matches the rate: an overall rate is applied to NOI. Watch for exclusions such as debt service, which is not an operating expense.
Common Mistakes to Avoid
- -Capitalizing EGI instead of NOI
- -Including debt service as an operating expense
- -Writing 9% as 0.9 instead of 0.09
Concept Deep Dive
Analysis
This question tests the step from effective gross income to NOI and then to value. Operating expenses are deducted from EGI, debt service is excluded, and the resulting NOI is divided by the overall rate. Skipping the expense deduction or mishandling the decimal produces the distractors.
Background Knowledge
The income approach reconstructs income from potential gross income to effective gross income to NOI. NOI excludes debt service, and an overall capitalization rate is applied to NOI to indicate value.
Real-World Application
An appraiser reviewing an office building's operating statement removes the owner's mortgage payments from the expense list before computing NOI. The NOI is then capitalized at a market-derived overall rate.
More Income Approach Questions
Which stated cause of supported value loss is external?
Improvement cost new is $450,000. Separately supported improvement depreciation deductions of $45,000, $25,000, $15,000 are expressly nonoverlapping and not already excluded from cost new. Add supported site value of $125,000, already reflecting any site losses. What total indicated value results?
Which two depreciation categories may each be classified as curable or incurable by comparing the cost to remedy a deficiency with the value gained?
Improvement cost new is $800,000. Separately supported improvement depreciation deductions of $120,000, $80,000, $40,000 are expressly nonoverlapping and not already excluded from cost new. No site is included. What depreciated improvement amount results?
The principle of anticipation in real estate valuation states that:
Which highest-and-best-use criterion addresses whether a proposed use is allowed by zoning and applicable legal restrictions?
Three comparables produce adjusted indications of $312,000, $309,000 and $315,000, requiring gross adjustments of 9%, 14% and 22% respectively. Verification also establishes that the first sale is the closest competitive substitute and its adjustments are better supported than the other two. Which indication deserves the most weight on those facts?
When reconciling value indications from the three approaches to value, an appraiser should:
A property sold at a cash-equivalent price of $1,062,500. Its stabilized annual NOI is $85,000. What is the indicated overall rate?
In reconciliation, an appraiser should:
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