Sunday, May 25, 2008

Valuation of Real Estate


There are 4 common methods used to value real estate:

1. Cost Method. Value here is determined by replacement cost of improvements plus an estimate for the value of the land. Replacement cost is usually easy to determine using current construction costs. Valuation of the land however may not be that easily determined. Another point to note is also that the market value of an existing property might differ from the actual replacement cost. This depends on the current condition of the improvements.

2. Sales Comparison Method. I believe this is one of the more commonly used methods in Singapore. Look at HDB websites,etc and they usually give the average or median prices of units sold. The sales comparison method basically uses the price of similar property from recent transactions. Sometimes, when the market is illiquid, websites are reluctant to show the transaction prices that took place as 1 or 2 transactions might not provide a good gauge of the actual value. Prices from other properties must be adjusted for changes in market conditions and also for characteristics that might be unique to the individual properties. Another more detailed method of this approach relies upon what is called a hedonic price estimation, where certain characteristics of a property are quantified and then sale prices for all recent transactions are put into a regression model that will in turn determine a benchmark value for the property based on its unique characteristic (e.g. floor level, proximity to town, MRT, direction facing)

3. Income Method. The income method uses a discounted cash flow model to estimate the present value of the future income (rental) produced by the property. The net operating income (NOI) is a simplified estimate based on annual gross rental revenues minus any operating expense. The NOI is then divided by an estimated market required rate of return, giving the appraisal price. This approach ignores changes in NOI that may occur over time and also does not take into account individual's income tax.

4. Discounted after-tax cash flow model. This links the property to an investor's specific marginal tax rate. The net present value of an investment equals the present value of after-tax cash flows, discounted at the investor's required rate of return, minus the initial outlay of investment. Only projects with positive expected NPV would make financial sense.

Again, I would like to reiterate that I believe in the Singapore Real Estate market, the sales comparison method is the one used the most often. You can check out the URA website to see transaction prices of various properties:
http://www.ura.gov.sg/real_estate/main.jsp

2 comments:

Brendan said...

So when we start to buy property?

bk said...

I think it depends on the reason why you are buying a property =)

If it is for investment, I believe that regardless of market situation there should always be good steals around.

I am not a property expert so thats just my 2 cents worth

Cheers

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