A commercial real estate appraisal can be complicated - from knowing what to ask for as well as what to provide to the appraiser.
Here's what you need to know.
Commercial Real Estate Appraisal is very different from residential and is much more subjective in nature. Commercial Appraisals are much more dependent on income with less emphasis on land and building values.
If you are about to sell, buy, refinance, establish a value of a lease or lodge a property tax appeal with regard to a commercial real estate property – there are things you are going to need to know. What follows is a list of the top 10 things you need to know about commercial real estate appraisals.
1. The Viewing Is Only a Small Part of the Appraisal Process
Depending on the size and complexity of the property to be appraised, it is likely to take less than an hour to view the property. You may think that this is a big part of the process, but it is only a fraction of what is about to transpire. It is reasonable to assume that prior to and after the viewing of the property appraisers have or will conduct data gathering through private and public data sources, research all of the comparable market data, analyze the collected data and then begin the process of report generation. Most commercial real estate appraisals will take approximately 2 to 3 weeks to complete.
2. Don't Try to Misrepresent the Facts
Appraisers are professional skeptics. They will seek to verify anything that you tell them from other sources. Appraisers are always thinking about how they will defend their opinions if they are ever brought to court, even in assignments in which litigation appears unlikely. We know that everyone loves their property and that is ok but in the end all of the information has to be credible and supportable.
3. Don't Withhold Information
You will probably be requested to provide data on the property such as financial statements, capital expenditures, rent rolls, building plans, etc. Providing any data relevant to the assignment in a timely manner will expedite the appraisal process. Most appraisers prefer data in an electronic form however good old paper will suffice. It is important to provide all of the data to the best of your ability even if you think it will diminish the value. Ultimately, negative information will eventually surface and then you open yourself up to potential litigation. It is better to be forthright from the beginning. Don’t forget despite how the appraisal is paid for – we are impartial when it comes to offering our value opinions. We do not work for one side or the other - we are simply trying to establish market value based on all of the available data.
4. Appraisers Must Adhere to a Strict Code of Ethics
Appraisers are licensed from the state, belong to professional organizations and must follow a multitude of laws, regulations and guidelines with respect to our professional conduct. Public Trust is the cornerstone of our industry and our industry is a crucial component of the economic engine of the United States of America. Not something to be taken lightly. Professional Organizations such as the Appraisal Institute and the Royal Institute of Chartered Surveyors are the gold standard and their designations confer upon their members a belief in the highest ethical standards. Most appraisers are open to friendly banter and even a degree of self-promotion from property owners, however no appraiser will allow themselves to be compromised by the promise of “incentives” or be bullied by threats.
5. The Client Is the Party That Orders the Appraisal
If the appraisal is for financing, the lender is most likely the client. Appraisers are obligated to maintain client confidentiality, so if you are the borrower or any other party, the appraiser cannot release the appraisal report or any other confidential information to you without the express permission of the lender. This is a very common misunderstanding in our industry. Since the borrower often “pays” for the appraisal it is often, incorrectly, assumed that they are the client. To be clear the appraiser’s client is the lender, thus the borrower is our client’s client. However, most lenders if requested will provide a copy of the appraisal to the borrower once they have finished with their underwriting.
6. Identify the Intended Use and User
If you are contacting the appraiser directly - make sure the appraiser knows why you want an appraisal and who will be relying on the appraisal. This is critical since no one wants to spend money on an appraisal that ultimately, they will not be able to utilize. Also, it is important for the appraiser to understand so that they can provide guidance on what level of report might be required for any particular purpose and obviously the fees that are commensurate with that type of appraisal.
7. There Are Typically Three levels of Commercial Real Estate Appraisals
Although the terminology changes from time to time, commercial real estate appraisals generally fall into one of three levels of report. The first level is typically described as a “restricted use report" and is the shortest and least expensive type but can only be used by the client. The information is typically “stated”, only includes on approach to value and cannot be used for lending purposes. The second level is typically described as a “summary report" and is the most common type of report. The information is typically “summarized”, often includes at least two approaches to value and is used for a myriad of purposes including financing, litigation, accounting, taxes, etc. The third level is typically described as a “self-contained report" and is rarely used by the general market. This is a full appraisal report likely including all three approaches to value (sales comparison, cost and income approaches) and is thorough and voluminous in its presentation.
8. The Level of Report and Cost
The amount of work involved in reaching conclusions does not necessarily depend on the level of appraisal report. With a restricted use or summary appraisal, the appraiser will compile large amounts of information that are retained in a work file but are not included in the report. For this reason, the differences in fees between the various types of reports are less than the amount of information contained in the reports might indicate. The exact same amount of data gathering, research and analysis is conducted in all three levels – the main difference is the number of approaches included in the report and of course the level of detail contained within the narrative report.
9. Consider the Date of Valuation
Often referred to as the “effective date” of the appraisal, this can vary in time and must be clearly indicated before work begins on any appraisal assignment. Typically, there are three valuation scenarios. The first and most common is the date of viewing becomes the effective date of the appraisal. However, two general alternatives are a historical date often used for litigation, tax or accounting purposes aptly referred to as a “retrospective” date and going forward into the future we can also appraise a property assuming that certain characteristics of a property will be completed on a future date, such as a rezoning, construction, stabilization of a property, etc. and this is referred to as a “prospective” date.
10. Consider the "Property Interest" Appraised
For the most part properties can either be owned in Fee Simple or Leased Fee. Either form of ownership conveys certain rights on to the holder of that title. The main difference being that Leased Fee implies that the property is leased to another entity whereas Fee Simple implies that the owner occupies the property. Thus, the main resulting practical difference is that in a Leased Fee ownership the owner has a restricted right to use/occupy the property since there is a tenant in place and also creates the consideration of the tenants’ lease terms when a property is being sold.
Believe it or not, from time to time there may be a slight difference of opinion on a value conclusion put forth by the commercial real estate appraiser. I know – crazy right. However, should this rarity present itself in your particular situation – fear not my friend. Like most people appraisers are not perfect. Being the ever vigilant professional, we for the most part are open to rational discussions on differences of opinion and with the proper presentation of reliable data – I believe an honest review of the data is a reasonable exercise and may even warrant an adjustment of our value conclusion. Again, assuming that the newly provided data is both credible and supportable.
Originally presented in Inc. magazine by Darren Dahl and subsequently edited by Mick Stiksma, MAI, MRICS.