10 Things to Know about Commercial Real Estate Appraisal
A commercial real estate appraisal can be complicated–from knowing what to ask for as well as what to provide to the appraiser–here’s some basic information that should help you in the process.
Small business owners have a lot to digest when it comes to the subject of commercial real estate—especially these days. That goes double for the notion of obtaining an appraisal on a piece of commercial real estate, a process that can differ quite a bit from appraisals done for residential properties. Commercial appraisals are different from residential in the fact that commercial appraisals typically consider the income being generated from the property. Much of the value derived from a commercial building is based on the rental rates received relative to the expenses paid out. Commercial appraisals can be much more subjective in nature than residential valuations and may use all three approaches to value, the Cost Approach, the Sales Approach, and the Income Approach.
In other words, if you’re looking to get an appraisal done on a piece of commercial property—perhaps because you want to buy or sell it, or you want to establish a value of a lease, or even establish a value for estate and tax planning purposes, divorce, buy out of a partner—there could be a bit of a learning curve in knowing what you’re about to embark. What follows is a list of the top 10 things you need to know about commercial real estate appraisals:
1. The Inspection Is Only a Small Part of the Appraisal Process
Depending on the size and complexity of the property to be appraised, it could take less than an hour but possibly several hours to inspect the property. Some clients perceive this as the entire process but the truth is that it is just the beginning. Appraisers research public ownership and zoning allowances, look at the highest and best use of the property, investigate and explore activity in the neighborhood, research comparable sales in the immediate and competing markets, and perform market rent surveys. There are many others areas that appraisers research that can impact a property value, such as environmental issues, possible eminent domain proceedings, and existing easements that may exist. They then analyze this information as it relates to the value of the property. Finally, they write a report on their findings. The inspection is just the beginning of an appraisal process that may take several days or even weeks, depending on the complexity of the property and the purpose of the appraisal.
2. Be Truthful and Share the Facts
Commercial Appraisers are licensed professionals that will seek to verify anything that you tell them from other sources. The commercial appraiser often asks questions that they may already know the answer just to test the credibility of the information being supplied to them. Appraisers are always thinking about how they will defend their opinions if they are ever brought to court, even in assignments in which litigation appears unlikely. If you misrepresent anything, the appraiser may discount the credibility of anything else that you say.
3. Provide Needed Information
You may be asked if you can provide a copy of the architectural plans of the property, income and expense statements, copies of current leases, rent rolls and other related items. You might not know why an appraiser is asking you for something but it is best to provide whatever you can. Appraisers have no interest in unduly expanding their work files but they do need certain information. It’s important to consider the required information can only help the appraiser for a timely completion to the assignment. If you subsequently dispute the appraisers value opinions and produce additional information that wasn’t provided from the onset, you have wasted valuable time for both parties.
4. Licensed Appraisers Must Adhere to a Strict Code of Ethics
Appraisers must follow the Uniform Standards of Professional Appraisal Practice, (USPAP) which, among other things, requires them to provide an unbiased opinion of value. Failure to follow this might result in disciplinary action from the licensing state, including revocation of an appraiser’s certification. Commercial appraisers may refuse or decline assignments if they are asked to do something that violates these ethics.
5. The Client Typically Is the Party That Orders the Appraisal
Commercial appraisers need to identify who will be the client at the onset of the appraisal request. If the appraisal is for estate and tax planning, the client may be the current owners, their attorneys, and/or tax advisors, and the Internal Revenue Service. If the appraisal is for financing, the lender is typically the client. If the commercial appraisal is to be used for eminent domain or right of way purposes, the client may be the affected property owner, and the public agencies involved and their legal advisors. Appraisers are obligated to maintain client confidentiality, so if you are a successor trustee to a trust, the borrower, or any other party, the appraiser will only release the appraisal report to the identified clients at the onset of the assignment.
6. Identify the Intended Users
Make sure you fully disclose to the appraiser who will be the users of the report. If you are looking to buy a property, that might mean you intend to share the appraisal with the seller, if for possible purchase, the lender (though they will likely obtain their own appraisal), and if for estate and tax planning, the users will be your attorneys, and/or the CPA’s, and the IRS and state tax board. These people or parties need to be identified in the appraisal report and are the only ones who are authorized to use the appraisal report.
7. There Are Two Types of Appraisal Reports
According to USPAP as of 2014-2015, a “restricted use report” can be performed and typically is the shortest and least expensive appraisal type. However, this type of report can only have one user or client, as per Standards Rule 2-2 as a reference. (Pg U-21) If there will be more than one user, the restricted report can be misleading to multiple readers. Fees can vary based on the size of the property as well as the scope of the appraisal, but a good starting point for a restricted report on a commercial property might be $1,500 to $2,500. An Appraisal Report on a commercial property typically is in a narrative format (not a form-fill report) that outlines the data and analysis. The Appraisal Report can be used by multiple intended users and typically start around $3,000, depending upon the complexity of the commercial property. When you call to request a commercial appraisal, be sure to identify how you intend to use the report as the appraisers can guide you on the type of report you may need for your situation.
8. The Type of Report Is Separate From the Scope of Work
The amount of work involved in reaching value conclusions does not depend on the type of appraisal. With a restricted use report, the appraiser will compile large amounts of information that will be retained in a work file but not outlined in detail in the report. The Appraisal Report will include more details but the amount of data collected could be the same for both report types. For this reason, the differences in fees between the various types of reports is attributed, in part, to the amount of time and information contained in the reports. For example, a thirty five page report compared to a hundred page report from the appraiser relates to time and detailing of the results of their findings.
9. Consider the Date of Valuation
Appraisers can appraise property as of the date of inspection, as of a past date (a retrospective appraisal), or as of a future date (a prospective appraisal). It is important that you establish with the appraiser the correct date(s) of valuation for your needs. For estate and tax planning purposes, the appraisers are typically asked for a date of death valuation, and in many cases, an alternative six months after the date of death valuation. These two valuation dates could require two separate data sets of comparables, and varied documented income streams to justify that property’s market and income conditions for that property type. In divorce proceedings, the appraisers are frequently asked for two dates of valuation to establish value. Every situation can have unique circumstances, which is why qualified and experienced appraisers will ask many questions when you contact their office. The Commercial Appraisers want to perform the appraisal that is right for you and your situation.
10. Appraisers Consider the “Property Interest” Appraised
Last but not least, disclose to the appraiser your interest in the property. For example, if you want to know what a property is worth “As-Is” free and clear – such as an office/warehouse to move your business as a single occupant – you are interested in what’s called the “fee simple interest.” In other words, you simply want to know the value of the building and its property, as an Owner-User. On the other hand, if you want to know what a property is worth when occupied by multiple tenants at market rents, you want a “leased fee interest.” Finally, if you want to know what a lease is worth to a tenant, you want a “leasehold interest.” This is a common request when people look to buy businesses, as they need to know what the value of the lease is to that business. Be sure to identify which property interest you are needing for your appraisal.
Call the experienced Commercial Real Estate Appraisers at ProWest Appraisal, Inc. to discuss your situation and answer any questions you may have after reading these ten tips. 858.571.0750 or 888.212.1888.