An appraiser must value the fee simple interest in an owner-occupied warehouse. The best comparable sold subject to a long lease whose contract rent is well below current market rent. Before relying on that sale, which adjustment for property rights conveyed is indicated?
Correct Answer
B) Upward, since the below-market lease lowered the price paid
When actual rent is below market rent, a prudent buyer pays less than the value of the unencumbered rights because the full property rights are not acquired. The comparable's price therefore reflects a leased fee worth less than fee simple, and it must be adjusted upward to indicate the fee simple value. A downward adjustment runs the wrong way, and physical similarity does not cure a difference in rights conveyed.
Why This Is the Correct Answer
Option B is correct because a buyer of property leased below market pays less than the value of the unencumbered rights, since the full rights are not acquired. The comparable's price understates fee simple value, so an upward adjustment for property rights conveyed is needed.
Why the Other Options Are Wrong
Option A: Downward, since the lease gave the buyer a secure income stream
Option A adjusts downward because the lease gave the buyer secure income. The income is below market, so the lease reduced what the buyer paid; making the price even lower moves it further from fee simple value.
Option C: None, since the building is physically similar to the subject
Option C makes no adjustment because the building is physically similar. Physical similarity does not address the difference in rights: the comparable sold as a leased fee, while the subject is valued in fee simple.
Option D: Downward, by the total rent shortfall over the lease term
Option D adjusts downward by the total rent shortfall over the term. The shortfall lowered the comparable's price, so the adjustment is upward, and its size reflects the present value of the rent gap rather than an undiscounted total.
Cheap lease, cheap price
A below-market lease means the buyer paid a below-fee-simple price. To get back to fee simple, add the shortfall's value back in.
How to use: Use this when a leased comparable is used to value an unleased or owner-occupied subject.
Exam Tip
Check rights conveyed before physical features; a direction question on leased comparables turns on whether contract rent is below or above market.
Common Mistakes to Avoid
- -Ignoring the lease because the buildings are physically alike
- -Adjusting downward for a below-market lease
- -Using an undiscounted total rent shortfall as the adjustment
Concept Deep Dive
Analysis
This question takes two steps: notice that the comparable conveyed a different interest from the subject, then set the direction of the adjustment. The comparable's buyer bought a leased fee burdened by below-market rent, so it paid less than fee simple value. To use that sale for a fee simple appraisal, its price must be raised.
Background Knowledge
Property rights conveyed is the first item checked when analyzing a comparable sale. A sale of a leased fee interest reflects the existing lease, so its price differs from a fee simple sale when contract rent differs from market rent. Appraisers investigate whether the rights conveyed match the rights being appraised and adjust when they do not.
Real-World Application
An appraiser valuing an owner-user warehouse finds a nearby sale of a similar building leased long term at old, low rents. She estimates how much the lease depressed the price, adjusts the comparable upward for property rights conveyed, and explains the step in the report.
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Use a supported simple additive market trend of+0.80% per month, without compounding. A comparable contracted seven months before the effective date for a cash-equivalent $415,000; no other adjustments apply. What adjusted price results?
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