What happens to the indicated land value if the required developer profit is increased?
Correct Answer
D) It falls, since more is deducted from gross sales
Why this is correct: In a development residual method, land value is the residual after deducting all costs and profit from the projected gross sales revenue. The formula is: Land Value = Gross Revenue - (Development Costs + Marketing Costs + Profit). Increasing the required profit percentage increases the dollar amount of profit deducted, thereby reducing the residual land value. Why the other choices are wrong: 'It rises, since profit is added to the residual' is wrong; profit is deducted, not added. 'It is unaffected, as profit is not a deduction' is wrong; profit is a key deduction. 'It rises in proportion to the profit percentage' is wrong; the relationship is inverse. Exam tip: In any residual calculation, the subject (land, building, profit) is the 'leftover.' Increasing any other component shrinks the leftover.
Why This Is the Correct Answer
Why this is correct: In a development residual method, land value is the residual after deducting all costs and profit from the projected gross sales revenue. The formula is: Land Value = Gross Revenue - (Development Costs + Marketing Costs + Profit). Increasing the required profit percentage increases the dollar amount of profit deducted, thereby reducing the residual land value. Why the other choices are wrong: 'It rises, since profit is added to the residual' is wrong; profit is deducted, not added. 'It is unaffected, as profit is not a deduction' is wrong; profit is a key deduction. 'It rises in proportion to the profit percentage' is wrong; the relationship is inverse. Exam tip: In any residual calculation, the subject (land, building, profit) is the 'leftover.' Increasing any other component shrinks the leftover.
More land-or-site-valuation Questions
Under which condition is the land residual technique most applicable?
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A site differs from land in that a site is best described as which of the following?
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How is entrepreneurial profit treated in the subdivision development method?
A land comparable sold 18 months ago in a market rising about 4 percent a year. What adjustment direction applies?
In a land residual analysis for a proposed office development, the appraiser estimates total annual net operating income (NOI) will be $1,250,000. The improvement value, derived via the cost approach, is $15,000,000. Market evidence indicates a 7.0% overall capitalization rate is appropriate for similar improved properties. What is the indicated land value?
A developer plans a 36-lot residential subdivision on raw land. Each lot is expected to sell for $85,000. Total development costs (excluding land) are $1,420,000, including $220,000 for entrepreneurial incentive. The developer requires a 12% annual yield on invested capital over a 3-year development period. Using the subdivision development method, what is the maximum price the developer should pay for the land if all lots sell at the projected price and timing?
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Previous Question
A property sold for $525,000. Improvements had a replacement cost new of $390,000 with 30 percent accrued depreciation. What land value does extraction indicate?
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Net operating income is $240,000 and the building, worth $1,500,000, is capitalized at 9 percent. Using a 7 percent land rate, what does the land residual technique indicate?