CRECI Property Valuation Methods 3 — Questions and Answers
Question 1: In the discounted cash flow (DCF) method, the discount rate used should reflect:
- The property's cap rate from the first year
- The investor's required rate of return including risk (Correct answer)
- The local property tax rate
- The mortgage interest rate only
Correct answer: The investor's required rate of return including risk
The discount rate in DCF represents the investor's required total return, incorporating risk, opportunity cost, and market expectations.
Question 2: When extracting a capitalization rate from comparable sales, the appraiser divides:
- Gross potential income by sale price
- Net operating income by sale price (Correct answer)
- Effective gross income by sale price
- Net operating income by mortgage balance
Correct answer: Net operating income by sale price
Market-extracted cap rates are derived by dividing a comparable property's stabilized NOI by its confirmed sale price.
Question 3: Functional obsolescence caused by a feature that was once desirable but is now outdated is called:
- Curable physical deterioration
- Superadequacy (Correct answer)
- External obsolescence
- Deferred maintenance
Correct answer: Superadequacy
A superadequacy is an excess feature that no longer adds commensurate value, representing a form of functional obsolescence.
Question 4: In the income approach, potential gross income (PGI) is best defined as:
- Total income after vacancy and collection loss
- Maximum income a property could generate if fully leased at market rates (Correct answer)
- Net operating income before debt service
- Income from all sources including parking and laundry
Correct answer: Maximum income a property could generate if fully leased at market rates
PGI represents the total income a property would generate at 100% occupancy with all units leased at market rents.
Question 5: Under the cost approach, the land value must be estimated separately because:
- Land depreciates faster than improvements
- Land is not depreciable and must be valued as if vacant (Correct answer)
- IRS rules require separate land and building assessments
- Lenders require land to be valued at tax-assessed amounts
Correct answer: Land is not depreciable and must be valued as if vacant
Land is considered non-depreciating and must be valued independently, typically via the sales comparison method applied to vacant land sales.
Question 6: The term 'effective gross income' (EGI) in an income property pro forma is calculated as:
- PGI minus operating expenses
- PGI minus vacancy and collection loss plus other income (Correct answer)
- NOI plus debt service
- Gross rent minus capital expenditures
Correct answer: PGI minus vacancy and collection loss plus other income
EGI equals potential gross income reduced by vacancy and collection losses, plus ancillary income such as parking or laundry fees.
Question 7: Which approach to value is most heavily relied upon when appraising a special-purpose property like a church or school that rarely sells?
- Sales comparison approach
- Income capitalization approach
- Cost approach (Correct answer)
- Gross rent multiplier method
Correct answer: Cost approach
Special-purpose properties lack sufficient comparable sales and income data, making the cost approach the most applicable methodology.
CRECI Property Valuation Methods 3
In the discounted cash flow (DCF) method, the discount rate used should reflect: