A property's NOI is fixed by lease at $80,000. If market cap rates move from 6.4% to 8.0%, its indicated value:
Correct Answer
C) Falls from $1,250,000 to $1,000,000
Why this is correct: The governing concept is that value using direct capitalization is calculated as Net Operating Income (NOI) divided by the capitalization rate (V = NOI / R). With NOI fixed at $80,000, value at 6.4% is $80,000 / 0.064 = $1,250,000. At 8.0%, value is $80,000 / 0.08 = $1,000,000. Thus, value falls by $250,000 (20%) when the cap rate increases by 1.6 percentage points. Why the other choices are wrong: "Falls by exactly the 1.6-point spread" is incorrect because value change is not a linear function of the rate spread; it depends on the base. "Rises from $1,000,000 to $1,250,000" is incorrect because a higher cap rate reduces value, not increases it. "Stays unchanged, since NOI is unchanged" is incorrect because value is sensitive to cap rate changes even with constant NOI. Exam tip: Cap rate changes have a leveraged effect on value; small rate errors can lead to large value errors.
Why This Is the Correct Answer
Why this is correct: The governing concept is that value using direct capitalization is calculated as Net Operating Income (NOI) divided by the capitalization rate (V = NOI / R). With NOI fixed at $80,000, value at 6.4% is $80,000 / 0.064 = $1,250,000. At 8.0%, value is $80,000 / 0.08 = $1,000,000. Thus, value falls by $250,000 (20%) when the cap rate increases by 1.6 percentage points. Why the other choices are wrong: "Falls by exactly the 1.6-point spread" is incorrect because value change is not a linear function of the rate spread; it depends on the base. "Rises from $1,000,000 to $1,250,000" is incorrect because a higher cap rate reduces value, not increases it. "Stays unchanged, since NOI is unchanged" is incorrect because value is sensitive to cap rate changes even with constant NOI. Exam tip: Cap rate changes have a leveraged effect on value; small rate errors can lead to large value errors.
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Previous Question
A 50-unit apartment complex is subject to a 99-year ground lease with annual land rent fixed at $75,000, payable in perpetuity. The improvements were constructed by the leaseholder and will revert to the landowner at lease expiration. The appraiser is developing a market value opinion of the leasehold interest. Which statement BEST describes the appropriate income approach treatment?
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A property is subject to a ground lease with 40 years remaining. The tenant (improvements owner) pays $50,000 annually to the landowner, while current market rent for the land alone is $72,000 per year. The improvements are fully depreciated, and the tenant bears all maintenance, taxes, and insurance. Under the income approach, what is the indicated value of the leasehold interest assuming a 6% overall capitalization rate applied to the annual rent differential and a 40-year term?