CGA Cost Approach 1

Question 1

What is the main purpose of the cost approach in real estate appraisal?

Accepted Answer

To estimate the property's replacement or reproduction cost, less depreciation.

Answer

The cost approach estimates a property's value by summing the estimated value of the land and the depreciated cost of the improvements. It assumes a buyer would not pay more than the cost to acquire a similar site and construct an equally desirable improvement. Therefore, its main purpose is to determine what it would cost to replace or reproduce the existing structure, then subtract any loss in value due to depreciation.

Question 2

Which of the following is NOT a component of the cost approach?

Accepted Answer

Operating income.

Answer

The cost approach focuses on valuing a property by estimating the cost to build or replace it, subtracting depreciation, and adding the land value. Operating income, which represents the revenue a property generates after expenses, is a key component of the income approach to valuation. It is not directly used in the calculations for the cost approach.

Question 3

How is depreciation calculated in the cost approach?

Accepted Answer

By estimating the amount of loss in value due to age, wear, and functional obsolescence.

Answer

Depreciation in the cost approach accounts for the total loss in value of the improvements from all causes. These causes are categorized into physical deterioration (wear and tear), functional obsolescence (outdated design or features), and external/economic obsolescence (factors outside the property). Appraisers estimate these losses to arrive at the depreciated value of the improvements.

Question 4

Which of the following is typically considered when determining land value in the cost approach?

Accepted Answer

Sales of comparable land in the area.

Answer

In the cost approach, the land is valued separately as if it were vacant and available for its highest and best use. The most common and reliable method for determining land value is the sales comparison approach, where the subject land is compared to recent sales of similar vacant land parcels in the same market. This direct comparison helps establish a market-based value for the land component.

Question 5

What is a limitation of using the cost approach in appraising a property?

Accepted Answer

It is less effective for income-producing or older properties.

Answer

The cost approach is most reliable for new or unique properties where depreciation is minimal or easily quantifiable. For older properties, accurately estimating accumulated depreciation due to physical deterioration, functional obsolescence, and external obsolescence becomes very challenging. For income-producing properties, the income approach is generally more relevant as buyers are primarily interested in the income stream generated.

(CGA) Certified General Appraiser Practice Test

(CGA) Certified General Appraiser Practice Test

CGA Cost Approach 1