Cost Approach
Definition
The cost approach estimates a property's value by calculating the current cost to rebuild the improvements, subtracting accumulated depreciation, and adding the land value. It is most reliable for new construction and special-purpose properties.
Example
An appraiser determines that a 20-year-old warehouse would cost $500,000 to replace. Accumulated depreciation is $150,000. The land is valued at $120,000. Property value = $500,000 - $150,000 + $120,000 = $470,000.
Exam Tip
Know the formula: Cost New minus Depreciation plus Land Value. Remember the three types of depreciation—physical deterioration, functional obsolescence, and external obsolescence. External obsolescence is the only type that is always incurable and is never the property owner's fault.
Related Valuation Terms
Depreciation of Investment Property
Depreciation is an accounting method of allocating the cost of an asset over its useful life, allowing investors to deduct a portion of the asset's cost each year.
Income Approach
The income approach estimates a property's value based on the income it generates by converting net operating income into a value estimate using a capitalization rate. It is the preferred method for income-producing properties.
Highest and Best Use
Highest and best use is an appraisal concept that identifies the most profitable, legally permitted, physically possible, and financially feasible use of a property. It is the foundation of all property valuation.
Comparable Sales Approach
The comparable sales approach estimates a property's value by comparing it to similar properties that have recently sold in the same market area. It is the most widely used and reliable approach for appraising residential properties.
Reconciliation in Appraisal
Reconciliation is the final step in the appraisal process where the appraiser analyzes the value indications from all applicable approaches and arrives at a single final opinion of value. It is not a simple average of the three values.
Property Tax Exemptions and Relief Programs
Various programs and exemptions exist to reduce the property tax burden for specific groups, such as seniors, homesteaders, or veterans.
Frequently Asked Questions
Test Your Valuation Knowledge
Practice with exam-style questions to make sure you can apply Cost Approach and other valuation concepts.