How Commercial Property is Appraised

When you are purchasing a commercial property, obviously one of the most important steps is the appraisal. Unlike the residential property process, the appraisal done when the borrower has already submitted documentation to the lender. One of the reasons is that the commercial appraisal is much more expensive than the typical residential appraisal. A commercial appraisal can cost anywhere from $2000 to $3000 and often times can cost more. Therefore, before the borrower has to pay substantial money for the appraisal, the there is a preliminary qualification.

Other than cost, the other big difference between a commercial appraisal and a residential appraisal is time. It can often take over a month to conduct and write the appraisal. The mjor reason for the large time and expense is that the method used for appraising commercial property is different and more complicated. The appraiser will use three methods is valuing a commercial property.

Cost Approach

The primary assumption of this method is that the value is the same as the cost to construct the property or replacement cost. This method requires an in-depth knowledge of construction, depreciation and material costs.

Sales Comparison/Market Approach

This is the method most are familiar with as it is the accepted method for valuing residential real estate. Typically this method involves selecting properties with similar characteristics in the the same market area that have recently sold. Once those properties are found they are compared to the property in question and a professional appraiser will deduct value from the subject property for comparative deficiencies and increase value for advantages. Typically this method is required if the investor is seeking conventional financing.

Income Capitalization Approach

This valuation method is a short-hand means to determine the value of a property based on its income in comparison to similar properties. Essentially, what has to be determined is the prevailing capitalization rate in a given market for that type of property. Then, the appraiser will divide the income generated by the property by the capitalization rate and come up with a sales value as a result. Determining the income is also a complicated process because it involves calculating expenses and vacancy rates.

Essentially the appraisal will use all three approaches and then determine and weigh each of them to obtain the appraised value. This is why the appraisal process is expensive and takes quite a bit of time.

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