In the cost approach, economic obsolescence is characterized as:
Correct Answer
C) Incurable and attributable to factors external to the property
Why this is correct: The correct answer is 'Incurable and attributable to factors external to the property.' Economic obsolescence (external obsolescence) is a form of depreciation caused by negative influences outside the property itself, such as a nearby nuisance, economic decline of the area, or changes in zoning. As the original explanation notes, it is 'incurable' because the property owner cannot fix it by improving or renovating the subject property. Why the other choices are wrong: 'Attributable to poor maintenance by the owner' describes physical deterioration or deferred maintenance. 'Always curable through renovation' is the opposite of incurable; functional obsolescence is sometimes curable. 'Curable and attributable to the property itself' describes curable functional obsolescence, like an outdated kitchen. Exam tip: Use the 'locus of control' test: If the cause is outside the property lines and the owner can't fix it, it's economic (external) obsolescence.
Why This Is the Correct Answer
Option B correctly identifies the two key characteristics of economic obsolescence: it is incurable and caused by external factors. The incurable nature means that no amount of money spent on improving the subject property can eliminate this type of depreciation. The external attribution refers to causes originating outside the property boundaries, such as neighborhood decline, adverse zoning changes, increased traffic, or economic downturns. These external factors create a loss in value that cannot be recovered through property improvements, making this depreciation both permanent and beyond the owner's control.
Why the Other Options Are Wrong
EXTERNAL = INCURABLE
Remember 'EI' - External factors cause Incurable economic obsolescence. Think 'EI EI OH NO!' - when external factors hit, there's nothing the owner can do to fix it.
How to use: When you see a question about economic obsolescence, immediately think 'EI' to recall that it's External and Incurable. If an answer choice suggests it's curable or internal to the property, eliminate it immediately.
Exam Tip
Look for keywords like 'external factors,' 'neighborhood,' 'traffic patterns,' or 'economic conditions' in questions about economic obsolescence - these signal external causes that make the obsolescence incurable.
Common Mistakes to Avoid
- -Confusing economic obsolescence with functional obsolescence
- -Thinking economic obsolescence can be cured through property improvements
- -Attributing economic obsolescence to factors within the property rather than external causes
Concept Deep Dive
Analysis
Economic obsolescence represents one of the three types of depreciation in the cost approach, alongside physical deterioration and functional obsolescence. Unlike other forms of depreciation that originate from the property itself, economic obsolescence stems from external factors beyond the property boundaries that negatively impact value. This type of depreciation is considered incurable because property owners cannot remedy it through improvements to their own property - the causes lie in the surrounding environment, market conditions, or broader economic forces. Understanding the external nature and incurable characteristic of economic obsolescence is crucial for proper application of the cost approach in appraisal practice.
Background Knowledge
The cost approach recognizes three types of depreciation: physical deterioration (wear and tear), functional obsolescence (design deficiencies), and economic obsolescence (external factors). Each type can be either curable or incurable depending on whether the cost to cure exceeds the value added by the cure. Economic obsolescence is unique in that it is always incurable because it originates from factors outside the property that cannot be controlled or remedied by the property owner.
Real-World Application
A well-maintained office building experiences declining rents and occupancy due to a major employer leaving the area, creating economic obsolescence. No amount of building improvements can restore the lost value because the problem is the weakened local economy, not the building itself.
More Cost Approach Questions
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A property has potential gross income of $180,000, vacancy and collection loss of $15,000, and operating expenses of $65,000. What is the Net Operating Income?
A comparable sale occurred 8 months ago for $425,000. Market conditions indicate property values have increased 0.5% per month since that time. What is the adjusted sale price?
A property generates $150,000 in potential gross income. Market data indicates a 7% vacancy rate and operating expenses of 35% of effective gross income. If the cap rate is 9.5%, what is the indicated value?
A property sold for $320,000 one year ago. If market conditions have improved by 6% since that sale, what is the time-adjusted sale price for comparison purposes?
A commercial building cost $2,500,000 to construct. The land value is $600,000. If the building has suffered 15% physical deterioration and 8% functional obsolescence, what is the depreciated cost of the improvements?
A building's gross rent multiplier (GRM) is 120. If the monthly rent is $2,500, what is the indicated value?
The concept of regression in property values means that:
A commercial property has potential gross income of $120,000, vacancy and collection loss of 8%, and operating expenses of $35,000. Using a cap rate of 9.5%, what is the indicated value?
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