UNITS USED FOR VALUATION
Let us start by discussing the different units used in real estate valuation.
1. Carpet area
According to Real Estate (Regulation and Development) Act 2016 (the Act), carpet area is defined as “ the net usable floor area of an apartment, excluding the area covered by the external walls, areas under services shafts, exclusive balcony or verandah area and exclusive open terrace area, but includes the area covered by the internal partition walls of the apartment.”
2. Built-Up area
Build-Up area is the carpet area plus the thickness of the outer and inner walls and the balcony or verandah area.
3. Common Areas
According to the Act, common areas are defined as
(i) the entire land for the real estate project or where the project is developed in phases and registration under this Act is sought for a phase, the entire land for that phase;
(ii) the staircases, lifts, staircase and lift lobbies, fire escapes, and common entrances and exits of buildings;
(iii) the common basements, terraces, parks, play areas, open parking areas and common storage spaces;
(iv) the premises for the lodging of persons employed for the management of the property including accommodation for watch and ward staffs or for the lodging of community service personnel;
(v) installations of central services such as electricity, gas, water and sanitation, air-conditioning and incinerating, system for water conservation and renewable energy;
(vi) the water tanks, sumps, motors, fans, compressors, ducts and all apparatus connected with installations for common use;
(vii) all community and commercial facilities as provided in the real estate project;
(viii) all other portion of the project necessary or convenient for its maintenance, safety, etc., and in common use;
4. Super Built-Up area
Super built-up area is derived by adding built-up are and the common area.
Note: Real Estate (Regulation and Development) Act 2016 makes it necessary for developers to specify carpet area and not the built-up or super built-up area. Valuations based on a super-built area can lead to unreasonable prices.
Now, let us get into valuations.
Before we get into valuation factors and methods used for the valuation of real estate properties, we should be clear about the difference between the Value and Price which are not synonymous.
“Price is what you pay. Value is what you get.”
- Warren Buffett
Price paid is decided by negotiation and the value is decided by calculations with consideration of the factors affecting the value of the asset. A smart investor will base her purchase decision after considering the value using various methods and comparing the values thus calculated with the price she is going to pay.
Appraisal of a real estate property may be done for various purposes – purchasing decision is one then for tax purposes, also insurance purposes. The value arrived for tax or insurance purposes by the relevant authorities can be very different from value relevant for purchasing decision.
BASIS OF VALUE
1. Market Value
As per International Valuation Standards, Market Value is defined as “the estimated amount for which an asset or liability should exchange on the valuation date between a willing buyer and a willing seller in an arm’s length transaction, after proper marketing and where the parties had each acted knowledgeably, prudently and without compulsion.”
We can summarise it as – the amount a willing and prudent buyer pays to a willing seller with complete knowledge about the property as well as the alternatives, on the valuation date.
2. Investment Value or Worth
AS per International Valuation Standards, Investment Value is the “is the value of an asset to a particular owner or prospective owner for individual investment or operational objectives.”
This value varies from owner to owner and based on the financial benefits gained by the owner because of the possession of the asset.
3. Value for Tax Purposes
The appraisal for property tax purposes may vary significantly by location.
4. Insurable Value
This the appraisal of the value of the property for insurance purposes.
5. Liquidation Value
Liquidation value is the amount that the property can fetch when sold in a period less than the period required to get a market value. In liquidation, the owner may lack the negotiating power because of urgency.
1. Market Approach or Sales Comparison
This approach utilises the information about the sale of similar properties to arrive at the value of the property. For this approach to work abundant transactional information about similar properties should be available. This approach is vulnerable to market speculations.
2. Income Approach
This approach bases the value of the property based on the income generating capability or cost savings. This approach calculates the value as the net present value of the future cash flows generated by the property.
This value is useful in making a buy or rent decision for residential properties.
3. Cost Approach
This approach basically calculates the replacement or reproduction cost for the property and then deductions are made for physical deterioration etc.
This approach can be used when there are no substantial regulatory or legal restrictions to build a similar property and the buyer has the capability to do so.