What to Know About Valuing Real Estate

Simply put, property valuation is the process of assessing a property’s worth at a given time. Valuing real estate is not a shot in the dark—appraisers use factors such as the property’s location, square footage, age, market rates, and more, to come up with a number that is fair and accurate.

There are a number of reasons for a property valuation, so understanding its inner workings is important for property owners of all kinds. If and when the need arises, you’ll be fully equipped to handle it head-on.

Why Should You Do a Rental Property Valuation?

Residential property valuation involves methodically finding the value of a dwelling unit. It’s typically used for investment purposes, as it accounts for the asset’s growth potential given the current market. Below, we’ll discuss when and why you should care about valuing a rental property.

When Buying/Selling Property

For tax/legal reasons, valuing real estate is often required when buying and selling it. When purchasing, make sure that the residential property valuation is done by an unbiased party (meaning someone who won’t make money from an overvaluation).

Whether you’re buying or purchasing, you want the valuation to be as accurate as possible. Valuing a property fairly and accurately will help you to establish fair yet competitive rates for both properties you are looking to buy and sell in the future.

Periodically After Purchase

A common misconception is that appraisals are only necessary in the buying and selling of properties. However, markets often fluctuate, and it’s important to have an accurate valuation of your assets periodically. This is where a sales comparison approach can help, evaluating similar properties to your subject property. Having a firm understanding of your assets’ worth will also help you to avoid overvaluation and skewed financial reports.

It’s best to reassess your property’s value over time to ensure your rental stays afloat in your sea of local market competition. This is also extremely important for insurance purposes, as you want your coverage to be accurate and useful should you need to file a claim.

How to Value a Property

Valuing real estate is typically done by a professional appraiser or a certified real estate agent. However, you can use different methods of appraisal yourself to get a bearing before getting professionals involved. Wondering how to value a property yourself? Look no further.

Key Factors for Rental Property Valuation

When valuing real estate, there are four key factors that appraisers consider. These aspects guide the valuation and give them insight into the property’s current and future value. They are:

1. Demand: The property should be desirable and reasonable, meaning the average prospective owner in the area has the potential to own it.
2. Transferability: The property’s ownership should be easily transferable, with no strings attached.
3. Utility: The property should be well-equipped to meet the wants and needs of future owners (aspects like ample space, amenities, functionality, etc.).
4. Scarcity: The property should stand out in some way if there are similar listings in the area.

Keeping these four elements in mind is important when valuing real estate, as each of them can drastically change the property’s worth. Making the most informed valuations will be beneficial to everyone in the long run. Below, we’ll discuss a few different ways to take these factors into consideration.

Types of Property Valuation

There are a few different kinds of property valuation to be aware of, as each has its own pros and cons. Below, we’ll explore these different types, as well as when each method may be most useful to you.

Comparative Market Analysis Method

A comparative market analysis (also referred to as a market analysis) is essentially what it sounds like: comparing the property’s worth to similar ones in the area. Finding properties with the most commonalities is important, as you want to eliminate as many extraneous factors as possible. Look for real estate of a similar size, quality, and location.

When comparing two similar properties, it’s best you keep in mind the following factors:

• Date of sale (ideally within the last year)
• Age of the property
• Renovations & updates
• Location (neighborhood, nearby schools, crime rates, etc.)
• Terms and conditions of the sale
• Square footage
• Condition of the property
• Market conditions when the property was sold

When valuing real estate with this method, you’ll need to take these factors into consideration and add or subtract value accordingly. Use the following formula to compare the value of your property with another:

Sale Price of Property +/- Price of Different Factors = Property Value

Remember: The more similar the properties are, the less addition/subtraction you’ll have to do—and the more accurate your valuation will be.

Cost Method

Another simple way to conduct a rental property valuation is to use what’s called the cost method. The goal is to essentially approximate how much it would cost to build the property from the ground up. It accounts for various factors such as cost of materials, depreciation, landscaping and much more.

There are two ways to go about a cost method property valuation:

• The Reproduction Method, which calculates the valuation based on the original materials the property was built with. How much would it cost to replicate? You’ll need to consider the same type and quality of materials that were actually used to construct the property in that era.
• The Replacement Method, which calculates the valuation based on rebuilding the property using modern methods and materials. The properties don’t have to be identical, but it’s ideal for them to be as similar as possible functionality-wise.

For historically rich or significant buildings, the reproduction method can serve as a more accurate benchmark. The replacement method, which is more often utilized, is a good starting point for valuing a regular property & its amenities.

Income Capitalization Method

The last approach, income capitalization, is a bit more complex. It’s most used for predictable properties in stable markets, as it relies upon the expected return on investment. Here, the profitability is what sets the foundation for the asset’s value.

Consider the following two factors:

• The net operating income (NOI), which is calculated by subtracting projected operating costs from the expected income.
• The capitalization rate (cap rate), which compares the initial investment to the property’s income in the long term.

Then, with these two figures calculated, you’ll use the following formula:

Net Operating Income / Capitalization Rate = Property Value

This approach works great for long-term investments like buy-and-holds, but not for investors who don’t plan to play the long game. The discounted cash flow approach is also useful here for analyzing the future potential of high-value properties.

Who Can Do a Property Valuation?

Although you can do your own property valuations, you’ll want to get someone with experience and certification before making a serious business move. These typically come in two forms: accredited real estate agents and professional appraisers. If you’re looking for a beginner valuation, there are online tools that can help too.

Professional Appraisers

If you’re buying/selling or refinancing a property, most lenders will require an official appraisal. Professional appraisers receive extensive training on exactly how to value a property, making them some of the best and most qualified people for rental property valuations.

Professional appraisers can have different levels of certifications and qualifications from agencies like the Appraisal Institute, each of which signals different levels of expertise with certain property types. They follow stringent procedures to maintain appraiser independence.

Certifications include:

• MAI: A Member of the Appraisal Institute, which means they specialize in valuing and evaluating a variety of property types (plus, they’re able to advise clients on investment decisions).
• SRPA: A Senior Real Property Appraiser, which means they specialize in valuing a variety of property types.
• SRA: A Senior Residential Appraiser, which means they specialize in valuing residential properties.

When looking for a qualified appraiser in your area, you can use the Appraisal Subcommittee’s Appraiser Registry. It’s a government-run site that ensures each appraiser listed has certified credentials and licenses.

​Accredited Real Estate Agents

Real estate agents often have an impressive amount of knowledge and experience, which makes them great at appraising properties. However, you won’t want just any agent to perform your rental property valuation—there are specific residential property valuation qualifications that real estate agents can earn.

Here are two things to consider when hiring a real estate agent for a residential property valuation:

• Accreditation & Education: Real estate agents can generally have one of two appraisal designations: general accredited appraiser or residential accredited appraiser. Having either of these titles means that the realtor has received the proper education required by their state, making them a qualified appraiser.
• Potential Bias: When hiring an accredited real estate agent, you’ll need to make sure they are a neutral party. The agent you hire should not be associated with the property in any way, as this introduces the possibility of bias and inaccurate valuations.

If you choose to hire a real estate agent for a property valuation, it’s vital that they are both qualified and impartial. You can easily find a local appraiser using online databases such as Realtor.com’s agent search or contacting other real estate professionals in your community.

Online Tools

Though these are a less accurate option, they’re great for finding a benchmark number. There are a number of tools online that can give you a decent idea of a property’s worth—but remember, these valuations are to be taken with a grain of salt! The most accurate property valuations are conducted in-person by experienced professionals.

Websites like Zillow have their own property valuation tool, which consider aspects such as size, location, age, sale histories, and more. They generally draw off of public records and may not always consider the property’s current condition, recent renovations, and other changes.

Do What’s Right for You

Understanding precisely how to value a property means you’ve conquered the hardest part of the process: the research. With your newly acquired knowledge, you’re prepared to take on the world of valuing real estate. Make sure that you consult with experienced professionals throughout the process, and as always, never be afraid to ask questions and seek additional guidance from others.

FAQs

Why should I perform a rental property valuation?

Rental property valuation helps you understand the asset’s growth potential, ensures fair pricing, and aids in setting competitive rental rates. Regular valuations can also support accurate insurance coverage and inform about the property’s potential for a good investment.

Who can conduct a property valuation?

Certified professionals such as accredited real estate agents and professional appraisers should perform valuations. They bring expertise and neutrality to the process, ensuring reliable results while maintaining reviewer independence.

What methods are used for property valuation?

Common methods include the Comparative Market Analysis method, the Cost method, and the Income Capitalization method, each offering unique insights based on different criteria. The discounted cash flow approach is also used for in-depth analysis.

What are the key factors in valuing rental properties?

Key factors include demand, transferability, utility, and scarcity. These elements help determine both current and future property value of the subject property.

How often should property valuations be conducted?

Property valuations should be done periodically, especially after market changes or property updates, to maintain accurate financial records, competitive positioning in the local market, and adequate insurance coverage.