An appraiser applying the cost approach estimates an improvement cost new of $620,000 and $80,000 of depreciation from other causes. An external factor also reduces annual net income by $4,000. That loss is allocated only to the improvements, has not been counted elsewhere, and is capitalized at 8%. The site is valued at $170,000, which already reflects site influences. What is the indicated value?
Correct Answer
A) $660,000
620000−80000−4000÷0.08+170000 = 660000. Common errors: leaving out the capitalized external loss gives $710,000; deducting the annual $4,000 loss instead of its capitalized value gives $706,000; leaving out the other $80,000 improvement depreciation gives $740,000.
Why This Is the Correct Answer
Option A is correct because $4,000 / 0.08 = $50,000 external loss, and $620,000 - $80,000 - $50,000 + $170,000 = $660,000. The external loss is allocated only to improvements and not already counted, so it is deducted once. The site value already reflects site influences, so it is added unchanged.
Why the Other Options Are Wrong
Option B: $706,000
Option B is wrong because $706,000 deducts the annual $4,000 loss instead of its capitalized value: $620,000 - $80,000 - $4,000 + $170,000 = $706,000. The loss must be capitalized to $50,000, giving $660,000.
Option C: $710,000
Option C is wrong because $710,000 leaves out the capitalized external loss: $620,000 - $80,000 + $170,000 = $710,000. Deducting the $50,000 external loss gives $660,000.
Option D: $740,000
Option D is wrong because $740,000 leaves out the other $80,000 of improvement depreciation: $620,000 - $50,000 + $170,000 = $740,000. Both deductions apply, giving $660,000.
Capitalize, deduct, then add site
Turn the annual loss into a value loss first, deduct all depreciation from cost new, then add site value last.
How to use: Use this when a cost approach question includes an annual income loss along with other depreciation.
Exam Tip
Do not subtract an annual income figure directly from a value figure; capitalize it first. Then confirm whether the loss belongs to the site, the improvements or both.
Common Mistakes to Avoid
- -Deducting the annual income loss without capitalizing it
- -Omitting one category of depreciation
- -Deducting external loss from site value that already reflects it
Concept Deep Dive
Analysis
This question tests a full cost approach that includes a capitalized external loss. The $4,000 annual net loss is capitalized at 8%, giving $50,000 of external obsolescence for the improvements. Then $620,000 - $80,000 - $50,000 + $170,000 = $660,000.
Background Knowledge
External obsolescence can be measured by capitalizing the income loss it causes at an appropriate rate. In the cost approach, total depreciation is the sum of all separate estimates, and the depreciated improvement value is then added to site value.
Real-World Application
A rented house loses $4,000 of net income a year because of nearby road changes, and the analysis allocates that loss to the improvements. The appraiser capitalizes it at 8% to $50,000 and deducts it along with $80,000 of other depreciation before adding the $170,000 site value.
More Cost Approach Questions
Why can equivalent-utility replacement cost be useful for an obsolete improvement?
An appraiser estimates the current replacement cost new of the improvements at $890,000, accrued depreciation from all causes at $170,000, and land value at $325,000. All necessary cost components and depreciation are included in those amounts. What is the indicated property value?
Improvement cost new is $595,000. Separately supported improvement depreciation deductions of $48,000, $27,000 are expressly nonoverlapping and not already excluded from cost new. Add supported site value of $155,000, already reflecting any site losses. What total indicated value results?
What best supports a claimed loss from a bathroom-layout deficiency?
Improvement cost new is $1,850,000. Separately supported improvement depreciation deductions of $310,000, $620,000 are expressly nonoverlapping and not already excluded from cost new. No site is included. What depreciated improvement amount results?
Which scenario most strongly supports giving the cost approach substantial weight?
A cost total $650,000 explicitly includes $40,000 of non-realty FF&E outside the appraised real-property interest. Exclude it. Supported realty-only total depreciation is $55,000. Add site $200,000, with no overlap. What real-property cost indication results?
A 2,200-sf dwelling costs $200 per square foot, and a separate 400-sf garage costs $75 per square foot. These costs are complete and do not overlap. Both have an effective age of 15 years and a total life of 50 years, with straight-line depreciation and no salvage value. No site value or other loss is involved. What is the combined depreciated cost of the dwelling and garage?
A new feature in the improvements has a current cost of $45,000 and a market contribution of $18,000. The entire difference is due to superadequacy, with no physical or external loss and no overlap. What is the loss from the superadequacy?
An external influence causes an annual net income loss of $9,600. The capitalization rate for the loss is 8%, and no other economic factors change. What is the indicated loss in value of the whole property, before allocation between site and improvements?
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