A duplex sold as a leased fee for $900,000, subject to a long-term lease at rent well below market. An appraiser wants to use the sale to estimate fee simple site value by extraction, and market data measure the effect of the lease. Which procedure is most appropriate?
Correct Answer
D) Adjust the price to a fee simple equivalent, then subtract the contribution
Property rights conveyed are an element of comparison, and extraction can only yield a fee simple land figure from a fee simple price. A below-market lease holds a leased fee price below fee simple value, so the price is adjusted upward before the improvements are subtracted. Using the reported price leaves the lease's effect in the land figure, and deducting the shortfall moves the price in the wrong direction. Adding capitalized contract rent to the contribution does not produce a land value.
Why This Is the Correct Answer
Option D is correct because the rights sold must match the rights being valued. With a below-market lease in place, the leased fee price sits below fee simple value, so a supported upward adjustment comes first. Subtracting the improvement contribution from that adjusted price then gives a fee simple land indication.
Why the Other Options Are Wrong
Option A: Subtract the contribution from the $900,000 reported price
Option A subtracts the contribution from the $900,000 reported price. That price reflects the below-market lease, so the lease's effect would be left in the land remainder rather than addressed.
Option B: Capitalize the contract rent and add it to the improvement contribution
Option B capitalizes the contract rent and adds it to the improvement contribution. This does not isolate land, and contract rent below market is not a measure of fee simple value.
Option C: Deduct the rent shortfall from the price, then subtract the contribution
Option C deducts the rent shortfall from the price. A below-market lease has already depressed the leased fee price, so the adjustment toward fee simple goes up, not down.
Rights First, Subtraction Second
Make sure the price reflects the interest you are valuing before subtracting anything. A below-market lease means adjusting up toward fee simple.
How to use: Use this order whenever an improved sale was subject to a lease at other than market rent.
Exam Tip
Think through the direction of a lease adjustment. Below-market rent lowers the leased fee price, so moving to fee simple raises it.
Common Mistakes to Avoid
- -Treating a leased fee price as if it were a fee simple price
- -Adjusting in the wrong direction for a below-market lease
- -Mixing capitalized contract rent into a value decomposition
Concept Deep Dive
Analysis
The land remainder inherits all the influences in the starting price, including the interest sold. A leased fee sold subject to a below-market lease reflects a different interest from the fee simple being sought. The procedure therefore starts by putting the price on the right rights basis, and the subtraction follows.
Background Knowledge
Property rights conveyed are a primary element of comparison. A leased fee encumbered by a below-market lease is generally worth less than the unencumbered fee simple, all else equal. Evidence for fee simple land value should be adjusted so that it reflects that interest.
Real-World Application
A rental house sold subject to a long lease at a low rent. Before using the sale for land evidence, the appraiser measures the lease's effect on price, restates the sale to fee simple and then subtracts the improvements.
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Vacant land may be valued by a multi-comparable median unit price ($/acre) applied to the subject’s acreage. Five similar vacant comps support unit prices of $88,000, $95,000, $98,000, $102,000, and $110,000 per acre. Subject contains 7.5 acres. What indicated land value by median $/acre results?
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An appraiser extracts land value from six improved sales and gets results ranging from $70,000 to $145,000. What does this indicate?