Common Fallacies & Mistakes

Mark Pomykacz, MAI, has compiled a list of the six most common fallacies and mistakes surrounding real estate and business appraisal and consulting.  Some of these fallacies could be considered humorous if it weren’t for the fact that they cause significant problems and cost the real estate community millions of dollars.  Mostly it is laymen and novices whose succumb, but all too often experts also fall victim, while the business and appraisal community does little to dispel these myths.

Fallacy / Mistake  #1 Laypeople mistakenly believe that appraisers only work for banks, providing expensive, full volume appraisals for loans. Appraisers can not provide other services.
Truth Appraisers can and should be used for many types of services, issues and assets. Appraisers can provide services for many valuation issues, including estimating value, income and returns, for any asset type, for any type of client. Appraisers can report their appraisals in various formats from executive summaries to full narratives.  Most importantly, since they are uniquely qualified, they should not only be utilized for appraisal reporting, but should be utilized for various consulting services, including feasibility, market analysis, due diligence, arbitration and mediation, and any other activity involving the analysis of real estate or business value, income and returns, its market, and requiring strict objectivity and high standards of professional practice. Appraisers, because of their rigorous training and professional standards, are extremely well qualified to provide numerous consulting (non-appraisal) services involving value, income and returns. See our services pages for details on all the services available to our clients.

 

Fallacy / Mistake #2 Laypeople confuse market value for value-in-use, investment value and others.
Truth There  are many different kinds of value.  Market value is the most commonly appraised.  Market value is the basis for loan collateral, condemnation awards, arms-length sales and others. But the other values must be understood in order to properly utilize the market value information. For example, consider a market value (the value in the eyes of the typical seller and buyer) for a business or real estate of $1,000,000.  Further, consider one particular buyer’s investment value, based on his personal investment criteria, of $1,250,000. This particular buyer would be making sound business decisions even if he paid more than market ($1,000,000), so long as he did not pay more than $1,250,000. Federal Appraisal often provides free scoping consulting to guide the client through the value-distinction process, and to ensure the client receives the type of value and service needed. See our services pages for details on all the services available to our clients.

 

Fallacy / Mistake #3 Laypeople confuse the various estates, interests and assets in real estate and businesses.
Truth In commercial real estate and in businesses, it is essential to understand and differentiate between the various estates, interests and assets. Depending on the client’s need, different estates, interests and assets may be appraised or appraised differently. Some examples include: appraising the fee simple estate for property taxes, while appraising the leased fee estate for a loan, while for condemnation, appraising the leased fee and fee simple for the landlord and leasehold for the tenant. Further, consider appraising the real property at a hotel or mall, while excluding business assets for property in a property tax assessment appeal. Additionally consider all asset values, incomes and returns for a damages estimate.  Lastly consider real, personal and intangibles in state transfer tax filing or cost segregation study for IRS depreciation. Federal Appraisal often provides free scoping consulting to guide the client through the process of distinguishing between estates, interests and assets, and to ensure the client receives the type of value and service needed. See our services pages for details on all the services available to our clients.

 

Fallacy / Mistake #4 Laypeople mistakenly believe that assessed value is directly comparable to market value. Laypeople mistakenly believe that book value is equal to market value.
Truth Assessed value is rarely directly comparable to market value.  In most cases the assessed value is percentage of market value.  The percentage can be referred to the equalization rate, the assessment ratio, or others.  It is simply the ratio of assessed value to market value, and should be established by the taxing jurisdiction, consistently throughout the jurisdiction, for the property class. To compare the assessed value to the market value, equalize the assessed value by dividing it by the equalization ratio, then compare the equalized assessed value to the market value.  Book value is an accounting defined and derived value, and need not have any relationship to market value.  Market value is defined and derived by appraisers. Most often, book value does not equal market value. For some accounting purposes book value is needed. When market value is needed, do not use book value.Federal Appraisal often provides free scoping to determine if a tax appeal is needed or whether a tax assessment compares favorably to market value. See our property taxes services pages for details on the related services available to our clients.

 

Fallacy / Mistake #5 Laypeople get confused with the various building area measurements.
Truth There are numerous building area measurements. Some have official definitions and others do not. Some are calculated using engineering precision. Others are negotiated. When buying, renting or analyzing a building or a unit within a building, be sure to determine how the advertised area is defined, and use a similar definition when comparing the area to other buildings or units. When considering a space, be sure to obtain a net usable square footage estimate.

 

Fallacy / Mistake #6 Laypeople get confused with gross and net leases.
Truth Sometimes the landlord pays the operating expenses, common area maintenance, utilities, real estate taxes, insurance, advertising and capital repairs. Sometimes the landlord pays only some of these expenses. Sometimes the tenant pay all or nearly all of these expenses. A gross lease is one where the landlord pays the expense(s). A net lease is one where the tenant pays the expense(s). A “triple net” lease is not officially defined, but is generally meant to describe a lease where the tenant pays operating expenses, utilities and taxes.  However, because operating expenses is not a universally defined term and other expenses may also be included or excluded, the term, “triple net” lease, is the cause of common, and costly confusion. When renting or analyzing a lease, be sure to obtain and understand the lease’s definition of gross, net, and triple net, and do not assume your definition is the same at the landlord’s. See our lease auditing services pages for details on the related services available to our clients.