Determining the value of improved property (upon which one or more commercial, residential, or other types of properties have been built) is a relatively straightforward process that includes comparing sales of similar properties in the area. But matters may not be as simple when the property is vacant and undeveloped. In this case, investors rely on professional appraisers experienced in determining residual land value and potential uses. Land buyers and investors should better understand this process and what’s involved, including:
- Why a vacant land appraisal needs to be performed
- Determining highest and best use of the property
- Steps involved in a vacant land appraisal
- Who orders and pays for the appraisal
An appraisal report with favorable results can provide peace of mind that the land you’re eyeing is a good investment. But lacking a preferable appraisal value, you may not obtain the financing you need or you might want to back out of the deal. Though the appraiser’s estimated appraisal value and final report may disappoint you, it could help you avoid buyer’s remorse and improve your ability to scout out worthy properties in the future.
Why a vacant land appraisal needs to be performed
No matter what kind of property you’re targeting for purchase, it’s crucial to determine its market value. This value can help guide your decision on making the right offer price and aid you in forecasting profit margins, property taxes, closing costs, and other significant metrics. Using an appraised value determined by an expert, you can make a more informed decision on whether or not the property is a good value and worth your investment dollars.
But vacant land appraisals are different from appraisals of built property.
"A vacant land appraisal is primarily concerned with the highest and best use of the property. If this is not determined before the sale, the appraised value could be incorrect," notes Mason Spurgeon, a certified general appraiser in Kirksville, Missouri.
Determining best and highest use of the property
To ascertain highest and best use, the appraiser must analyze the prospective value related to alternative uses of the property as well as the property’s current use. There are four tests that the Appraisal Institute recommends appraisers use to help determine the highest and best use of the property: Is the use (1) physically possible, (2) legally allowed, (3) feasible financially, and (4) maximally productive?
"Issues of physical possibility include size, shape, soil suitability, frontage, visibility, and access,” explains Robert Gagliano, president of Little Silver, New Jersey-headquartered Gagliano & Company, which provides real estate valuation assessments. “Legal issues include local zoning codes and can be regulatory in nature, with the presence of wetlands, endangered species, and stormwater management regulations being good examples. Legal issues related to residential development are often concerned with types of units permitted and the potential number of dwelling units. Commercial developers, on the other hand, are concerned with legal uses permitted and potential floor area.”
If the property passes the physically and legally possible tests, the next hurdle is to decide if the anticipated use will be financially feasible. This is demonstrated by gathering data, performing a market analysis, and creating proforma cash flow estimates.
"For example, a vacant parcel on a side street might be a poor location for a retail strip center, but it could be well suited for an office building," Gagliano continues. "Then the real drill down begins: Is there a market for new office space? Is there any new construction in the area? And how do values in the area compare to current construction costs?"
Lastly, it’s helpful to rank all of the viable anticipated uses that remain in order of return rate or value. Ultimately, the projected use that is considered maximally productive is the one demonstrating the highest net present value and internal rate of return.
"It’s the appraiser’s job to determine which use will bring the highest value to the land," says Gagliano.