What does direct capitalization implicitly assume about the income being capitalized?
Correct Answer
A) That it is representative and reasonably stable
Why this is correct: Direct capitalization uses a single year's income to represent all future years, so that income must be 'representative and reasonably stable'—a typical, sustainable level unaffected by temporary anomalies. Why the other choices are wrong: 'That it will grow each year at roughly the rate of inflation' describes an assumption more suited to a discounted cash flow with an income growth factor. 'That it has been audited or reviewed by an independent party' is not required; appraisers analyze income but don't need an audit. 'That it excludes any percentage rent or expense recoveries' is incorrect; direct cap can include such income if it is stable and representative. Exam tip: If the income stream is irregular or expected to change significantly, use DCF, not direct capitalization.
Why This Is the Correct Answer
Why this is correct: Direct capitalization uses a single year's income to represent all future years, so that income must be 'representative and reasonably stable'—a typical, sustainable level unaffected by temporary anomalies. Why the other choices are wrong: 'That it will grow each year at roughly the rate of inflation' describes an assumption more suited to a discounted cash flow with an income growth factor. 'That it has been audited or reviewed by an independent party' is not required; appraisers analyze income but don't need an audit. 'That it excludes any percentage rent or expense recoveries' is incorrect; direct cap can include such income if it is stable and representative. Exam tip: If the income stream is irregular or expected to change significantly, use DCF, not direct capitalization.
More income-approach Questions
In a percentage lease, rent is commonly structured as:
Escalation clauses and expense stops in a lease matter to the income analysis because they:
In a DCF, what is the reversion?
Potential gross income differs from effective gross income in that PGI assumes:
The reversion in a discounted cash flow model represents:
Two identical buildings differ only in risk: one has a single tenant on a short lease, the other five tenants on staggered terms. How do their cap rates compare?
Contract rent on a leased office is $30 per sq ft; market rent is $26. The $4 difference is called:
Building A (new, credit tenant, 20-year lease) and Building B (older, month-to-month tenants) sell the same week. Their cap rates should differ how?
An appraiser is analyzing a 15-unit apartment building. Market research indicates a 6% vacancy rate is typical for similar properties, but this property's historical vacancy has averaged 4%. The subject has experienced a 1% collection loss (uncollectible rents) over the past two years. When estimating effective gross income for the subject, what vacancy and collection loss percentage should the appraiser apply?
An overall rate extracted from a sale whose NOI excluded reserves, applied to a subject NOI that includes them, will:
People Also Study
Valuation Principles & Procedures
25% of exam
Property Description & Analysis
20% of exam
Market Analysis & Highest/Best Use
15% of exam
Appraisal Math & Statistics
15% of exam
USPAP (Ethics & Standards)
15% of exam