An appraiser is estimating the highest and best use of a vacant site. One of the

Question

An appraiser is estimating the highest and best use of a vacant site. One of the alternatives being considered as a use for the site is a building that would cost $1 million to construct the improvements. Under this use, NOI is estimated to be $120,000 per year. Assume that an appropriate building capitalization rate (RB) is 10 percent and an appropriate land capitalization rate is 8 percent. What is the estimated residual value of the land under this use? What is the total property value? Please include calculator key strokes (i.e., inputs for PV, FV, PMT, N, I)

Explanation / Answer

Net operating income = $120,000

Investments = $1,000,000

Land capitalization rate = 8%

Residual value of land = $120,000 – ($1,000,000 * 8%) = $40,000

Building cash flow = net operating income – Return to the land = $120,000 – ($1,000,000 * 8%) = $40,000

Value of building = $40,000 / 10% = $400,000

Total property value = $1,000,000 + $400,000 = $1,400,000

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