The “Science” Behind Residential vs. Commercial Real Estate Appraisal
With the global economy rebounding from its pandemic lows, residential and commercial property hunters are again on the prowl, eager for exciting opportunities at optimal prices.
The question is, how exactly is property value determined? And how does the real estate appraisal process work? The following article delves into the “science” of residential and commercial real estate appraisal and discusses the steps to succeed.
Residential vs. Commercial Property Appraisal and Their Differing Review Process
The goal of a real estate valuation is to pinpoint the price and value of a property. Although the end goal of evaluating properties is the same for a residential and commercial real estate appraisal, there are two fundamental differences in residential and commercial real estate appraising:
- First, the process of arriving at a dollar amount can differ significantly.
- Second, the motivation to look at the value of a property will be for entirely different purposes.
Consider the client who is purchasing commercial property for sale. The client could be an individual or company looking to invest in real estate. Their purchase will ultimately be income-generating. It could take the form of mixed-use real estate, an apartment building, office building, shopping center or retail building, industrial property for sale, and more. Whatever form it takes, the ultimate purpose is to generate revenue and conduct business.
Now consider the buyer of a residential property, typically an individual looking for a place to call home. The individual may be someone, possibly with a family, checking out the neighborhood and school districts to assess whether it could be a place to settle, dwell, and raise a family. The primary concern is a place to live. The most critical factors for commercial property investors are not the same as the typical home buyer.
Understanding the Process for Appraising Residential Property
The main reason driving a residential property purchase is to acquire a home. Residential properties are usually single-family homes for a person or family to live in with far fewer considerations than a commercial property. The appraisal report for a residential property takes less time to produce and includes far less data than a commercial appraisal report. Below are the defining characteristics for a residential appraisal:
- Cost per square foot
- Cost of construction and materials
- Floor plans
- Neighborhood and location
- Recent sales of comparable properties
“Don’t Be Seduced!” Understanding the Process for Appraising Commercial Real Estate
The two main reasons behind obtaining a commercial real estate appraisal are buying and selling commercial property and legal governance. The product of the real estate valuation – the commercial appraisal report – establishes the property’s value at a specific point in time. The report is a private document owned by the client, whoever commissions the appraisal. It includes all the details and factors that impact the commercial property value, including a defined number and the approaches that helped determine that concluded value. It is at the client’s discretion regarding how much information is released.
Commercial property appraisal reports include the same elements as a residential appraisal plus the addition of other sections such as:
- Comparative analysis of other commercial properties in the area
- Impacts from the neighborhood, local economy, and marketplace
- Description of the commercial property
- Explanation of potential risks you may face or negative aspects that may impact the market value of the commercial property
In addition, there are four main methods for calculating a commercial real estate valuation. Most professional commercial real estate appraisers employ a mix of the following strategies:
- By cost: How much would it cost to build or significantly renovate the property? This method looks at the expense of the land, materials, and labor for a reconstruction analysis. Although it doesn’t factor in the property’s income-generating potential, it highlights other noteworthy factors.
- By income: How much net operating income should the property generate given the current market? Some elements required in this calculation are potential gross rental income estimates, vacancy rates, and future expenses.
- By nearby comparables: How much have similar commercial properties in the area sold for? This strategy looks at the defining features of the commercial property and attempts to find local comparables to determine value. This method is most commonly used for residential properties.
- By the Gross Rent Multiplier: The GRM is a simple formula that divides the commercial property price by the projected monthly rental rate. The GRM is a quick way to calculate a ratio that can be easily applied to analyze multiple properties simultaneously.
With fewer factors to consider than a commercial property value, even the difference in the presentation of a report will appear obvious. A residential appraisal is often delivered in a standard set of forms (several pages), whereas a professional can present a commercial real estate appraisal in a 60 to 200-page narrative report. As such, there is a discernable difference in turnaround time and price for such analysis.
What Are the Best Practices for Choosing an Appraiser?
An appraisal report is instrumental in getting the best value for your real estate transaction. You must be comfortable with the property appraisal to feel confident you’re making a wise Ohio commercial real estate investment.
But beyond that, you also need to choose a real estate appraiser that’s best suited for you. Below are the qualities that the appraiser should possess:
- Specialized and experienced in the type of property appraisal you’re looking for, whether it be commercial or residential
- Reputable with a proven track record and locally recognized
- Independent and not contracted with any third party, institution, or broker
- Accredited by guiding organizations such as:
o Uniform Standards of Professional Appraisal Practice (USPAP);
o International Valuation Standards (IVS); and
o Federal Housing Authority (FHA).
The Optimal Choice for Commercial Real Estate Appraisers in Columbus, Ohio (and Throughout Ohio)
Columbus real estate investors and property owners rely on the expertise of The Robert Weiler Company, a trusted CRE leader throughout Ohio. Whether your transaction includes land for sale, commercial office space, industrial warehouses, retail space, apartment buildings for sale, or any other type of CRE property, we fully comply with professional guidelines and set the standard for commercial real estate services in the region. We are also pre-approved to work with the Ohio Department of Transportation (ODOT), the City of Columbus, and many banks in the Central Ohio area. With The Robert Weiler Company, you’ll discover the commercial property you desire…no matter what type of property you invest in.
Call us at 614-221-4286 to obtain your commercial property appraisal. You’ll see the difference our services will make in obtaining or maintaining your commercial real estate investment.