A property has stabilized annual NOI of $50,000, and market sales indicate an overall capitalization rate of 10%. What value is indicated by direct capitalization, rounded to the nearest dollar?
Correct Answer
D) $500,000
50000÷0.1 = 500000. Common errors: multiplying NOI by the rate instead of dividing gives $5,000; misplacing the decimal in the rate gives $50,000; dividing NOI by 1 + the rate instead of by the rate gives $45,455.
Why This Is the Correct Answer
Option D is correct because $50,000 ÷ 0.10 = $500,000. Direct capitalization converts a year's NOI into value by dividing by an overall rate expressed as a decimal.
Why the Other Options Are Wrong
Option A: $5,000
Option A, $5,000, comes from multiplying NOI by the rate ($50,000 × 0.10) instead of dividing. The correct value is $50,000 ÷ 0.10 = $500,000.
Option B: $45,455
Option B, $45,455, results from dividing NOI by 1 plus the rate ($50,000 ÷ 1.10), which is a one-period discounting step, not capitalization. The correct value is $50,000 ÷ 0.10 = $500,000.
Option C: $50,000
Option C, $50,000, comes from misplacing the decimal so the rate acts as 1.0 ($50,000 ÷ (0.10 × 10)). Using the rate as 0.10 gives $500,000.
IRV: Income ÷ Rate = Value
Income over rate equals value; income equals rate times value; rate equals income over value. Cover the unknown letter to see the operation.
How to use: Use IRV to choose between multiplying and dividing in any capitalization problem.
Exam Tip
A reasonable value should be many times the NOI at typical cap rates; an answer smaller than NOI signals multiplication by the rate.
Common Mistakes to Avoid
- -Multiplying NOI by the cap rate
- -Entering 10% as 1.0 or 10 instead of 0.10
- -Dividing by 1 plus the rate
Concept Deep Dive
Analysis
This question tests the basic direct capitalization formula, value equals NOI divided by the overall rate. With NOI of $50,000 and a 10% rate, value is $500,000. The distractors reflect multiplying instead of dividing, decimal errors and discounting confusion.
Background Knowledge
The basic income formula relates income, rate and value: value equals income divided by rate. An overall rate is extracted from comparable sales as NOI divided by cash-equivalent price. The rate must be applied to NOI computed on the same basis.
Real-World Application
An appraiser estimates stabilized NOI of $50,000 for a small industrial building and extracts a 10% overall rate from comparable sales. Dividing gives an indicated value of $500,000.
More Income Approach Questions
Market analysis confirms that seller financing at 3%, versus a 6% market rate, increased a comparable sale price. What adjustment removes that financing premium?
At the same effective date, reliable value indications support $800,000 for continued use of a property as improved and $500,000 for its cleared site. Immediate demolition costs $100,000. These are the only feasible alternatives, with no other costs or timing differences. Which alternative has the higher net value?
Other relevant conditions equal, growth in the number of households with effective purchasing power in a market tends to have which effect?
In a lakefront market, paired sales show that direct water frontage has the largest price effect of any feature. Which approach to comparable selection best follows from this evidence?
Which circumstance can cause highest and best use as improved to differ from highest and best use as though vacant?
A small group of buyers in a market looks for specialized features that are uncommon in the broader housing supply. What term describes this group?
A neighborhood analysis should include all of the following EXCEPT:
A site legally permits at most 40 units and can physically support 50. Supported comparable analyses find 30 and 40 units financially feasible, with 40 units producing the highest net land value after costs, timing and required return. Which use is maximally productive among these alternatives?
Market evidence isolates a subject value loss from off-site landfill odors. Which listed cause is an external-obsolescence influence?
Which proposed use cannot pass the legal-permissibility screen without evidence that the necessary permission is reasonably probable?
People Also Study
Real Estate Market
13.6% of exam
Property Description
11.8% of exam
Land or Site Valuation
4.5% of exam
Sales Comparison Approach
16.4% of exam
Cost Approach
13.6% of exam
Previous Question
The buyer of a comparable property paid $300,000 in cash and also assumed a separate $20,000 liability. The liability was payable in cash at closing and was not included in the $300,000. No deferred payments were involved. What is the total immediate consideration?
Next Question
Verified matched market levels are $450,000 exactly six months before the effective date and $460,000 at the effective date, with mix and terms controlled. Using a simple proportional monthly rate rather than compounding, what monthly percentage change results? Round to two decimals.