Professional Practice II

Module 1

Valuation
Valuation of immovable properties,
elements of valuation and factors
affecting valuation; Techniques of
valuation of land and building property;
Value classification and types of valuation.
 Terms used in Valuation
COST

The term cost is used to indicate the actual amount incurred in producing
a commodity.
Cost means the original cost of construction and can be known after
accounting all day-to-day expenditure from the very planning stage till the
construction is completed.
The expenditures or charges represented directly in the commodity
produced are called the prime costs.
Other expenditures or charges like rent, management, services, salaries,
depreciation, etc. represented indirectly in the production of the
commodity are called the supplementary costs.
 Price
The term price is used to indicate the cost of the commodity plus
profit of the manufacturer.
Price = Cost + Profit
As labour and capital are required to produce a commodity,
The manufacturer is entitled to have some reward over and above the
cost of commodity.
The price of a commodity is determined by the supply and demand
conditions prevailing in the market for that particular commodity and
as such , a commodity may be sold above or below its cost of
production
 Value
 Value is the price estimated to be realized in a sale
proceed between a willing buyer and willing seller.
In order to have value for commodity, it should posses the following three essential
characteristics;
a) It must possess utility.
b) It must be scarce.
c) It must be marketable or transferable.
 In the absence of any one of above qualities, the commodity may not have any
value.
 For eg. Rotten Mangoes though scarce do not have any value because they have no
utility. On the other hand, Land has got value because it satisfies all above
essentials.
Value also depends upon outside factors such as:
 Location of Property
 Time
 Supply and Demand Condition
Book Value
It is an original investment shown in the account books
of a company on its assets including properties and
machineries, less any allowance for the period passed.
It will be reduced year to year depending upon
depreciation and will be only scrap value at the end
of the utility period.

Assessed Value:
It is the value of the property recorded in the register
of local authority and used for the purpose of
determining the various taxes to be collected from the
owner of the property.
 Replacement Value:
value of a property or its services
calculated on the prevailing market rate to
replace the same.
 Rateable Value:
net annual letting value of a property
obtained after deducting the amount of
yearly repairs from the gross income. Taxes
are charged on rateable value of property,
Potential Value:
inherent value got by property such as land. Such value
may go on increasing due to passage of time or can fetch
more return if used for some alternative purpose.

Distress Value:
value at which property is sold at lower price than that of
open market due to difficulties of vendor.

Annuity
annual periodic payments for repayment of the capital
amount invested.
Obsolescence:
Sometimes a building though physically quite sound
yet it becomes outdated because of change in design
pattern, fashions living habits of its inhabitants and thus it
loses its functional utility. This is knows as Obsolescence.
It is very difficult to predict obsolescence.
Loss due to natural calamities are included in
Obsolescence.

Scrape Value:
After a property losses its utility, the value of
dismantled material less the cost of demolition is known as
Scrape value.
Salvage Value:
It is the value at the end of the utility period without
being dismantled.
Gross Income:
It is the total revenue realised from a property either as
rent or lease money during a year. The out goings and
collection charges etc are not deducted.
Out-going:
expenses incurred to maintain the property by
undertaking periodical repairs. It also includes taxes levied
by the Govt. or local body on that property. Sinking fund,
insurance, etc.
Net Income:
net amount left with the owner after deducting out
goings from gross income.
Net income = Gross income – Out goings.
Rent
annual or periodic payment made by the tenants for
use and possession of land and buildings.
Rental Value:
It is the rent which may reasonably be expected to be
obtained in the open market.
Ground Rent:
When a piece of land had been leased out, the rent
reserved under the lease is ground rent
Contractual Rent
rent fixed between the land lord and the tenant by
negotiations.
Standard Rent
rent which would be permissible under the law to be
charged from a tenant.
Valuation

 Valuation is an art of judgment based on

experience and relevant statistical data to
forecast the value of a property at present.
 The estimated value of property depends upon its power
to serve man’s need, location, amenities, purpose and
supply and demand of a property type.
 It continuously varies with age, physical state and
characteristics of the property itself.
 An Architect has to work out the value of an existing
property for various purposes.
 Valuation is needed for wealth tax, municipal taxation,
etc
Objects/Purpose of
Valuation
■ Buying or Selling property
■ Security of loans
■ Rent fixation
■ Insurance
■ Taxation
■ Compulsory acquisition
■ Betterment charges
■ Speculation
■ Court fees
■ Gift tax
■ Balance sheet
 Objects/Purpose of Valuation
1.Buying or selling property.
 when it is required to buy or sell a property, its valuation is required
2.Security of loans or mortgage.
 When loans are taken against the security of property , its valuation is
required. It is also referred to as valuation for mortgage purposes.
3.Rent fixation
 In order to determine the rent of a property valuation is required.
Rent is usually fixed on certain percentage of the amount of valuation
(5% to 10% of the valuation).
4.Insurance
 For the purpose of taking out an insurance policy of the property, the
owner desires to know the replacement value of the property . In this case
, the
 value of land is excluded or omitted.
 Objects/Purpose of Valuation
Taxation
To assess the tax of a property , its valuation is required. Taxes may be
municipal tax, property tax, wealth tax, etc. and all the taxes are fixed
on the valuation of the property
Compulsory acquisition
sometimes, a property is acquired by law for some public purpose.
In that case, the injured party is to be paid a suitable amount of
compensation for the property thus acquired. To determine the
amount of compensation valuation of the property is required.
Betterment charges
when the property comes under some town planning scheme of the area,
its value increases and consequently, the owner of the property is
required to pay additional tax, known as the
betterment charges. It becomes, therefore necessary for the property to
know the value of his property before and after completion of town
planning schemes.
 Objects/Purpose of valuation
Speculations
When a purchase is intended for sale of the property and make some profit, a
short period valuation is necessary for that purpose and this is known as
speculative value. Generally speculative value is lesser than the market value.
Court fees
When a case has to be filed with respect to a real estate, it becomes
necessary
to affix stamp of suitable amount. This amount is worked out after arriving at
the value of the property under dispute.
Gift tax
When a property is gifted, valuation of the gifted property is necessary to pay gift
tax to the government by the person whom the property has been gifted
Balance sheet
Sometimes, a company requires valuation of its premises for the purpose of
showing them in the balance sheet.
 Depreciation and
Obsolescence
Depreciation Obsolescence

Physical loss in the value of the property due to Loss in the value of the property due to change
wear, tear and decay etc. is known as in design, in fashion, in structures, etc. is known
depreciation. as obsolescence.
The decrease in the value of the The value of property increase or decrease at a
property is gradual and slow. rapid rate.

Depreciation depends on its original condition, Obsolescence depends on normal progress in the
quality of maintenance and mode of use. arts, inadequacy to present or growing needs, etc.

This is variable according to the age of the
property. More the age, more will be amount for
depreciation.
There are different methods by which the
amount of depreciation can be calculated.
This is not dependent on age of the building. A
new building may suffer in its usual rent due to
obsolescence.
At present there is no method of calculation of
obsolescence.
 Purpose of Valuation and Principles of
Valuation

Principles of Valuation
Following Principles should be observed at the time of
evaluating a fair and reasonable value of property.
• Cost depends upon supply and demand of the property.
• Cost depends upon its design, specifications of the
materials used and its location.
• Cost varies with the purpose for which valuation is done.
• In valuation, a vender must be willing to sell and so the
purchaser willing to purchase
• Present and future use of any property should be given
due weightage in valuation.
• Cost analysis must be based on statistical data as it may
sometimes require, evidence in a Court of law
Factor affecting the value of
the Property

1. Supply and Demand (Market Conditions)

Basically the value of a property is determined by
supply and demand.
For eg: plentiful supply of a commodity and little or no
demand, lower the value of commodity, whereas, if
there is little supply and a great demand, higher the
value of property.
In the property market the supply of property is
relatively fixed at any one time. In order to increase the
supply, more properties need to be built. However, this
process takes time. Demand, in contrast, can change
relatively quickly. Therefore property values tend to be
influenced by demand rather than supply.
 Factor affecting the value
of the Property

2. Location
Property proximity to public transportation, train stations,
shopping facilities, schools, etc., plays an import factor in
determining your property’s market value. Every area has a high
end and a low end. The market value of your property is affected
by that reality. People that purchase homes in “lower end” areas
expect to pay less than they would if they bought the same
home in a “higher end” neighbourhood.
Factor affecting the value
of the Property
3. Features
One of the key factors in property’s value is the
features it provides. For example, some house styles
are more popular with buyers than others. The age
and size of your home compared to other available
properties also plays a part in affecting your home’s
value.
4. Condition
The value of Property also depend upon its condition
and its functional utility. For eg: A home in
immaculate condition has a much higher potential
for a top dollar sale than one that is lacking the
most basic routine maintenance.
 Factor affecting the value of
the Property
5. Property Improvements
Property improvements are unquestionably important factors
that affect the property value.
For eg: Improvements like room additions, bedrooms,
bathrooms, kitchens and other items like floor tiles, swimming
pools, etc., can increase the value of your home.
6. Age
The age of a property can be a factor in value. If a property
has historical connections, it can make it more valuable and
imperfections such as uneven walls and sloping floors that
would not be tolerated in a new property would perhaps be
seen as quaint and charming.
Some older properties may need more maintenance and
repairing than a modern property and a newer property would
meet all the latest up to date regulations thus increasing its
value.
Factor affecting the value
of the Property
7. Seller Motivation
Seller motivation is also a major factor which affects
the offer price made by the buyer. For example, if
you bought a home in a new area you may be
willing to accept a lower price to quickly complete
the sale of your current house.
8. Marketing 
The marketing plan that your agent executes on
your behalf will determine the amount of interest
that is shown in your property. Your agent’s level of
skill and expertise in the negotiating process will
affect the amount of money you’ll be able to get for
your Property.
 Value Classification
 Theoretical value – mathematical value worked out for the
property
 Economical value - is a measure of the benefit that an economic
factor can gain from either a good or service & is generally
measure in terms of currency.
 Social and Cultural value-
 Aesthetic value
 Political value
 Religious Value
There are several types and definitions of
value sought by a real estate appraisal.
Some of the most common are:

 Market value -The price at which an asset would trade in

a competitive Supply and Demand setting. Market value is
usually interchangeable with open market value or fair
value.
 Value-in-use, or use value– The net present value
 (NPV) of a cash flow that an asset generates for a specific
owner under a specific use. Value-in-use is the value to one
particular user, and may be above or below the market
value of a property.
 Investment value - is the value to one particular
investor, and may or may not be higher than the market
value of a property. Differences between the investment
value of an asset and its market value provide the
motivation for buyers or sellers to enter the marketplace.
 Insurable value - is the value of real property
covered by an insurance policy. Generally it does
not include the site value.
 Liquidation value - may be analyzed as either
a forced liquidation or an orderly
liquidation and is a commonly sought standard of
value in bankruptcy proceedings. It assumes a seller
who is compelled to sell after an exposure period
which is less than the market-normal time-frame.
Sinking Fund

 It is the fund which is built up for the sole purpose of

replacement or reconstruction of a property when it
loses its utility either at the end of its useful life or
becoming obsolete.
 The fund is regularly deposited in a bank or with an
insurance agency so that on the expiry of period of
utility of the building, sufficient amount is available for
its replacement.
 The calculation of Sinking Fund depends upon the life
of a building as well as upon the rate of interest and it
is generally calculated on 9/10 of the cost of
construction as the owner will get 10% as scrape value
of the building when the life of the building is over.
 The amount of instalment of Sinking Fund can be worked out as under:

Sn = s[(1+R)n-1]/R
s =(Sn*R)/[(1+R)n-1]

Coefficient of sinking fund (Sc)=yearly instalment of

sinking fund
Taking, Sn=1,
Sc = R/[(1+R)n-1]
Where,
n = Utility period or life of building in years.
Sn = Sinking fund to be accumulated in ‘n’ years
R = Rate of interest in decimal
s = yearly instalment of sinking fund
Sinking Fund

Example 1
The sinking fund amount of a property is estimated to
Rs 50,000 whose future life is 20 yrs. Find the
yearly instalment of sinking fund of sinking fund
which should be set aside @ 5%.
Solution:
Coefficient of sinking fund instalment
Sc = R/[(1+R)n-1] = 0.05/[(1+0.05)20-1]
= 0.0302
Yearly instalment of sinking fund = 0.0302*50000 =
Rs 1510 /year
Sinking Fund

Example 2
A property has been purchased by a person at a cost of Rs. 40000
excluding the cost of land. Determine the amount of sinking fund
annually deposited at the rate of 5% compound interest. Assume
the future life of the building as 30 yrs and scrape value of the
building materials as 10% of the cost of purchase.
Solution:
The total amount of sinking fund to be accumulated at the end of 30
yrs
Sn = (90/100)*40000= 36000
= 36000
Annual instalment of sinking fund ‘s’ = (Sn*R)/[(1+R)n-1]
=(36000*0.05)/[(1+0.05)30-1]
=1800/(4.325-1) = Rs 541.35
 Depreciations
It is defined as the gradual decrease in the value of a property
because of constant wear, tear and decay etc.
The rate of depreciation depends upon the longivity of utility period
neglect of maintenance etc of a property.
Method of Depreciation Calculation
Straight Line Method
A fixed amount of original cost is lost every year and is
deducted from the original cost as long as the useful service life
and salvage value remain unchanged. Thus at the end of the utility
period only the salvage value remains.
Annual Depreciation (D) = (Original cost –
Salvage value)/life of years
Depreciations

D = (C-V)/n
Where,
D = yearly depreciation value
C = Original cost
V = Scrap or salvage value
n = Utility period of life of property in years.
The book value after number of years, say n1 years =
Original Cost – n1*D
Example 3

A person purchased a property for Rs. 20000.

Assume that its net salvage value after 30 yrs will
be 2000. Determine amount of depreciation each
year considering it to be uniform.
Soln:
Annual Depreciation ‘D’ = (C-V)/n
=(20000-2000)/30
=600 per year
Example 4

 The total cost of machinery including the installation charges in

a factory is Rs 120000. Calculate the depreciated cost of the
above after 15 years. The salvage value is Rs 8000. The span
of life is 40 yrs.
Soln:
Cost of machinery ‘C’ = Rs 120000
Salvage value ‘V’ = Rs 8000
Annual Depreciation ‘D’ = (C-V)/n = (120000-8000)/40
= Rs 2800
Depreciation for 15 years = 2800*15 = Rs 42000
Depreciated cost of the machinery after 15 years = 120000-42000
= Rs 78000
Depreciations

B. Sinking Fund Depreciation Method

In this method the depreciation of a property is
assumed to be equal to the annual sinking fund and
compound interest there on upto that date. The exact
amount to be set aside for the purpose of reinvestment
in the form of depreciation is calculated in such a way
that by depositing the same at compound interest it will
amount to fixed capital at the end of specified period.
The annual sinking fund to provide for Re 1 in n years
= R/[(1+R)n-1]
Where, R = rate of interest at which sinking fund amount is
required to be invested.
 Year Purchase (Y.P)
 The capitalize value which needs to be paid once for
all to receive a net annual income of Re 1 by way of
interest at the prevailing rate of interest in
perpetuity (i.e for an indefinite period) or for a fixed
no. of days.
* Suppose the rate of interest is 5% per annum. One
has to deposit Rs 100 to get Rs 5 per annum
Now, to get Re 1 he has to deposit 100/5 = Rs 20 per
annum
 Therefore, YP = 100/ rate of interest =1/R
Year Purchase contd..
 In case of life of property is anticipated to be short and to
account the accumulation of sinking fund and interest on
income of the property to replace capital, the year’s Purchase
is suitably reduced.
 Years Purchase (Y.P) = 1/ (R+Sc)
Example: Calculate the value of years purchase for a property if
its life is 20 yrs and the rate of interest is 5%. For sinking fund
the rate of interest is 4.5%
Soln:
Here, R=5%, R1 = 4.5%
Y.P =1/(R+Sc)
Coeff. Of sinking fund (Sc) = R1/((1+R1)n-1) =0.0319
Y.P = 1/(.05+.0319)=12.21
Outgoings

 Repair:
 It includes various types of repair such as annual repair,
special repairs, immediate repair, etc.
 Amount to be sent on repairs is 10 – 15 % of gross
income.
 Taxes
 Include municipal tax, wealth tax, income tax, property
tax etc.
 Paid by owner of the property annually and are calculated
on annual rental value of the property after deducting the
annual repairs 15 to 20% of gross income.
 Outgoings
Management and collection charges
- 5to 10% of gross income may be taken for this purpose
For small building it may not necessary to considered it
Loss of Rent
- As it may not be possible to keep whole of the premises fully let
at all times, in such cases a suitable amount should be deducted
from the gross rent
Miscellaneous
- These include:
electrical charges for lighting, running lift, etc and are borne by
the owner
- 2 to 5% of gross rent is taken for these charges.
Outgoings

Note: If the outgoing are not given in the question and

are to be assumed, the following percentage may be
taken for solving the problems.
i. Repair @ 10% of the gross income or rent
ii. Municipal taxes @ 20% of the gross rent
iii. Property tax @ 5% of gross rent
iv. Management and collection charges @ 5% of
gross rent
v. Insurance premium @ ½% of gross income
vi. Miscellaneous charges @ 2% of the gross rent.
Methods of Valuation

1. Rent Return Method:

Capitalised value of the property is worked out as
under:
Net rent = Gross rent – out goings
Year Purchase (Y.P) = 1/(R + Sc) where Sc – coefficient
of sinking fund
Capitalized value = Net rent * Y.P.
In case there are immediate repairs (capital repairs) to
be undertaken then
Net value = capitalised value – capital repairs
 Example 5
A building in an A class city is let out @ Rs. 5000 PM . ( per month) The
total outgoings of the property is estimated to be 15% of the
gross income, calculate the capitalized value of the property if
the present rate interest is 6% and life of the property is 50
Years.
Soln:
Gross rent = 5000*12 = Rs 60000 P.A (per year)
Outgoings = 15% of gross rent
=60000*15/100 = Rs 9000 P.A
Net Rent = 60000-9000 = Rs 51000
Since the life expectancy is quite lengthy therefore, the income is
considered to be perpetual (identifying long time) hence
Y.P = 1/R = 16.67
Capitalized value = 51000*1/0.06 = Rs 850000
In case sinking fund allowance is also to be accounted for
Sc = (R/[(1 + R)n – 1] = 0.06/[(1+0.06)50-1] = 0.0034
Y.P = 1/ (R + Sc) = 1/ (0.06+0.0034) = 15.77
Capitalized value = 51000*15.77 = Rs 804270.
Methods of Valuation

2. Land and building basis

When rent cannot be ascertained by direct methods for
building like schools, clubs etc, the valuation is done
on the cost of land to which the depreciated cost of
the building is added.
Cost of the land is approximately determined by taking
the average of the sale deeds of the near past.
Depreciated cost of the building is arrived at by
knowing its life and its age.
Sinking fund deposited is also taken as depreciation for
the purpose of calculation of net value of a property.
Methods of Valuation

3. Residual or Development Method

A big Plot is divided into small available units which are
planned and provided with best of amenities but at
least possible Expenses.
About 30% of land should be provided for necessary
amenities like roads, gardens, parks, electric sub
station and water facility like well etc.
In existing building if some improvements are to be
made, the development method of valuation may be
used.
The anticipated capitalized value will be equal to the
product of net income and year’s purchase.
Methods of Valuation

4. Valuation Based on Profit Basis

Such valuation generally done for commercial buildings
like hotels & cinemas and is based on the profit of
business in such properties.
Net yearly profit is worked out by reducing all possible
outgoings and interest of capital invested by the
owner of the business and remuneration of his labor.
This net profit is taken as net rent.
Capitalised value is determined by multiplying net rent
with year’s purchase.
Methods of Valuation

5. Valuation based on Cost

In this method the cost of providing a new construction
at the prevailing rate or in possessing the property
is taken as the basis to determine the value of the
property.
In such case necessary depreciation should be allowed.
Finally the cost of land and adjusted reproduction cost
are added together to get the value of the
property.
Depreciation Method of
Valuation
 According to this method the depreciated value of the property
on the present day rates is calculated by the formula:
D = P[(100 – rd)/100]n
Where,

D – depreciated value
P – cost at present market rate
rd – fixed percentage of depreciation (r stands for rate and d for
depreciation)
n – The number of years the building had been constructed.
To find the total valuation of the property, the present value of land,
water supply, electric and sanitary fitting etc; should be added to
the above value.
The value of rd can be taken as given in table
below

S.N Life of Building rd value

1 75 – 100 1
2 50 – 75 1.3
3 25 – 50 2
4 20 – 25 4
5 <= 20 5
 Example: a) the Present estimate of a building is Rs 200000. it
is 20 yrs old and maintained in a good condition. The life of the
structure is assumed to be 80 yrs. Work out the present value of
the building for acquisition.
b) With the present value of the building calculate the standard
rent, the rate of interest may be assumed 6%.
Solution:
a) The depreciated value of the building is:
D= P*((100- rd)/100)n
Where,
D= Depreciate value
P = Rs 200000 (i.e Cost of a present Market Rate)
rd= 1 (assumed) – fixed percentage of depreciation (r stand for rate
and d for depreciation)
n=20
Therefore, D=163581.0
b) Annual rent @ 6% = 163581*6/100
= 9815.0
Rent per Month or Standard Rent = 9815/12
= Rs 818.

Note: The value of rd may be taken as 1 for building

having life 80 yrs.
Example
# An RCC framed structure building having estimated future life
80 yrs, fetches a gross annual rent of Rs 2220 per month.
Work out its capitalized value on the basis of 6% net yield. The
rate of compound interest for sinking fund may be taken 4%.
The land Plot of above building measures 1400 sqm and cost
of land may be taken to be Rs. 120 per sqm.
The other Outgoing are:
i) Repair and maintenance 1/12th of the gross income.
ii) Municipal taxes and Property tax – 25% of gross income.
iii) Management and Miscellaneous charges – 7% of gross income
The Plinth area of the building is 800 sqm and plinth area rate of
the above type of building may be taken as Rs 150 per Sqm.
Soln:
Gross income per year = 2220*12 =Rs 26640.
Out going Per Annum:
i) Repair and Maintenance 1/12 of Gross income = 26640/12=
Rs 2220
ii) Municipal taxes and property tax @ 25% = 26640*25/100=Rs
6660
iii) Management and Miscellaneous charges @ 7% =
26640*7/100= Rs 1864
Sinking fund Coeff. (Sc)=R/((1+R)n-1) = 0.04/((1+0.04)80-1)

= 0.0018
iv) Sinking Fund Req to accumulate the cost of the building
(which is at the rate of Rs 150 / sqm of plinth area =
800*150=Rs 120000 in 80 years @ 4% intrest =
120000*0.0018= Rs 216.0
 Total Out going per annum = Rs 10960.8
 Net annual Return = 26640-10960.8 = Rs 15679.20
 Capitalised value of the Building = Net income * YP
= 15679.20*100/6 = 261320
Cost of land @ Rs 120 per Sqm (1400*120) = Rs 168000.0
Total = Rs 429320.0
Total value of whole property = Rs 429320
B. Valuation methods for open land

1. Comparative method
2. Hypothetical method
3. Belting method
 1. Comparative
Method
■ In this method the various transactions of nearby lands are property studied and then a
fair rate of land under consideration is decided.
■ Thus this method will be useful only in case of an active market where there are large
number of statistics are available for comparison.
■ Following factors are to be taken into account while analyzing value of land by this
method.
(I) Situation
(II) Size
(III)Shape
(IV)Frontage and depth
(V) Front road width
(VI)Vistas
(VII) Nature of soil
2. Hypothetical
Method

In this method value of a vacant plot of land is estimated by

capitalizing the assumed rent that can be obtained from a
building,If erected on the land after developing the same and
then deducting the cost of development and building.

This is not a suitable method of valuation of land

because thecost of land depends on the magnitude of
development of land.
Valuation procedure
■ Permissible covered area = total area – (1/3) area of open space land
■ find, rental area = total area – 20 % for area of walls and wastes
■ Calculate net rent per month = gross rent – outgoing
■ Find out Y.P.
■ Find out the cost of building from the total covered area and current
plinth area rent.
■ Workout the development cost of the land.
■ Find out the total cost of building and development cost.
■ Deduct the total cost of building and development cost.
 3. Belting Method
■ When a plot of big size is to be
valued or when a plot with less
frontage and more depth is to be
valued it is logical to adopt the
method of belting.
■ It is due to the principle that the
value of land in general
decreases as the plot increases.
■ In this method whole area is to
be divided into the number of
belts.