4 Ways to Effectively Assess Property Value for Investment
Real Estate investment is the most lucrative investment, especially in the Indian context. Before investment, the most common question that comes to your mind is, how much will be the return on my investment? But even before that, you must ask, what is the cost of the investment, or what is the property value?
What is Property Valuation?
Property valuation is the process of determining the economic value of your real estate investment. It helps you understand the fair market price or the price at which an informed seller is willingly selling the property to an informed buyer. In many cases, a property valuation can be lower than the fair market price. It is crucial that you determine the value of your property to have a clear idea of the rent that you need to charge or the taxes and insurance that you have to pay.
Here are the top 4 ways for effective property valuation
The Sales Comparison Approach
This is the most common approach for property valuation. Here you compare a property with similar properties that have been sold/rented over a period. It is essential to note that the comparison is made on characteristics like the number of bedrooms, bathrooms, garages, balcony, pools, fireplaces, and so on. It gives you a rough idea or a baseline figure for your investment. Per square foot, price is a common metric used in this method, and it gives a ballpark idea about the property valuation.
The Capital Asset Pricing Model
This model introduces the concepts of risk and opportunity costs into property valuation. No doubt, it gives a more realistic and effective valuation. In this method, you compare the rental income to the income from other risk-free investments like treasury bonds and investment trusts. The value of the property must be such that you get more returns than the other alternatives. It might be way different than what the seller is expecting, but you cannot afford losses with your investment.
The Income Approach
This method is very popular for determining the value of commercial properties. Here we value property by dividing the annual rental income by the capitalization rate. You can estimate the value of the property by using the simple formula
Value = Net Operating Income/Capitalization Rate
The NOI can be calculated by analyzing the income and expenses details of the concerned property and comparing it with similar properties in the locality. Next, you must gauge a suitable cap rate by studying similar properties that have been sold in recent times.
The Cost Approach
This method is suitable for special purpose lands for which you cannot find proper comparisons. In this method, we consider both the land value as well as the physical depreciation over time. Here it would be best if you considered the value of the vacant land put to its best use.
In the case of rental properties, the one-size-fits-all solution does not work. Most investors use a combination of the above techniques to effectively and accurately determine the property valuation.