When an appraiser is reconciling two market-derived vacancy rates for a retail property—one based on a survey of competing properties and one based on the subject's historical performance—the appraiser's final selection for use in the income approach should be primarily based on:
Correct Answer
D) the rate that reflects typical, long-term expectations for the market.
For market valuation, the vacancy and collection loss rate should reflect typical, long-term market expectations. While both historical data and competitor surveys are evidence, the appraiser must determine which evidence best reflects the market's view of ongoing, sustainable performance, not just short-term history or a single set of comparables. This aligns with the concept of stabilized operations in income capitalization.
Why This Is the Correct Answer
Direct capitalization requires a rate reflecting typical long-term market expectations, which both indications inform but neither alone determines.
Why the Other Options Are Wrong
Option A: the subject's most recent three years of actual vacancy.
Three years of the subject's actual experience reflects one property's particular circumstances rather than long-run typical performance.
Option B: the rate from the competing properties with the most similar lease terms.
Similar lease terms make a comparable more relevant but do not by themselves establish the long-run expectation.
Option C: an average of the two rates to ensure a balanced conclusion.
Averaging has no theoretical basis and yields a figure representing neither indication.
Typical, Over the Long Run
Typical, Over the Long Run. Neither this property's last three years nor a single survey number, but what the market sustains.
How to use: Where the subject diverges persistently from the market, explain why. The explanation shapes the rate.
Exam Tip
Keep the rate consistent with the capitalization rate's derivation. Rates extracted from sales carry those properties' vacancy assumptions with them.
Common Mistakes to Avoid
- -Adopting subject history as the stabilised rate
- -Averaging market and subject indications
- -Ignoring inconsistency with the capitalization rate's derivation
Concept Deep Dive
Analysis
Direct capitalization values a property on its stabilised long-run performance, so the vacancy rate selected must represent typical expectations rather than any particular period's experience. Both indications inform that judgment. The survey of competing properties describes what the market as a whole sustains and is usually the better guide, since it averages across properties and periods. The subject's history is useful evidence too, but it reflects one property's particular management, tenant mix and lease timing, and may run either above or below what is typical. The reconciliation weighs both toward a conclusion about the long run. Where the subject persistently differs from the market, that divergence is itself worth explaining — superior management or below-market rents on one side, poor management or a weak location on the other — and the explanation may justify a rate above or below the survey figure. Averaging the two has no theoretical basis and produces a rate representing neither.
Background Knowledge
Stabilised vacancy and collection loss reflects typical long-term market expectations. Competing property surveys and subject history both inform the estimate, and persistent divergence between them warrants investigation.
Real-World Application
An appraiser weighing a 7 percent market survey against 4 percent subject history concludes 6 percent, explaining the subject's superior management as partially but not wholly persistent.
More Income Approach Questions
In a percentage lease, rent is commonly structured as:
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:
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 overall rate extracted from a sale whose NOI excluded reserves, applied to a subject NOI that includes them, will:
Replacement reserves cover which kind of expenditure?
What is the primary distinction, for appraisal purposes, between 'vacancy loss' and 'collection loss'?
An appraiser is analyzing a mixed-use property with retail and office components. The retail segment has a potential gross income of $180,000 with a market vacancy of 8%. The office segment has a potential gross income of $120,000 with a market vacancy of 12%. What is the overall effective gross income for the property?
The mortgage constant represents:
People Also Study
Real Estate Market
13.6% of exam
Property Description
11.8% of exam
Land or Site Valuation
4.5% of exam
Sales Comparison Approach
16.4% of exam
Cost Approach
13.6% of exam