Ignoring Income Approach to Value Could Destroy Your Credibility

income approach to valueThe three recognized approaches to developing an opinion of value include: cost, sales comparison, and income capitalization. Sadly, the income approach to value gets the least attention from productive residential appraisers. Many have a boilerplate excuse either copied from someone else or written to attempt a one-size-fits-all statement that eliminates the need to seriously consider one of three ways to develop an opinion of value. If you look at their workfiles (assuming they have one), you will not find a list of nearby rentals, or any attempt to find recently sold properties that were rented at the time of sale. A good forensic reviewer can quickly destroy the appraiser’s credibility on this one item alone.

How do you defend yourself from this? Or wait—let’s rephrase that—how do you include sufficient data in your workfile to make an informed decision as to whether the income approach to value is necessary for credible results?

When to include the income approach to value

What if a client or an underwriting guideline says that the purchaser of the mortgage does not care if the appraisal report includes an income approach (or one of the other approaches)? Does that mean that you, the professional appraiser, do not have to bother collecting the data and considering the inclusion of this approach?

Hint: USPAP says that you should “be aware of, understand, and correctly employ those recognized methods and techniques that are necessary to produce a credible appraisal” and “not commit a substantial error of omission or commission that significantly affects an appraisal.”

This does not mean that every appraisal must include all three approaches to value to be credible. It simply means that you must consider what it takes to provide a credible appraisal. If the data collection process is completed, the highest and best use analysis is completed, and the appraiser has a clear understanding of scope of work necessary to produce credible results, the assignment may not need to include all of the approaches in order to produce credible results. If you reach that conclusion and can support and defend it, then the USPAP requirements have been met.

What about limited scope assignments?

The considerations above apply to all appraisal assignments, but most critically to limited scope assignments. When considering a limited scope assignment, you face additional necessity to be sure that the credibility of the analysis and the resulting report is clearly evident. Just because a client says “we don’t need all of that extra stuff” does not relieve you from professional responsibility as well as obligations under USPAP, laws and regulations of the state wherein the property is located, and applicable laws and regulations governing the loan for which the appraisal was requested.

Get your limited scope questions answered. Check out our new online course: Evaluations, Desktops, and Other Limited Scope Appraisals.

Research tips for income approach data

Use the following tips to ensure your workfile contains sufficient information regarding the income approach to valuation. This actually works:

  • When running the MLS service search, pull the list of all listings within the defined market area, including rentals, rental offerings, withdrawn or expired listings, properties off the market or under contract, active listings, etc. Do not limit the date of listing to the last 6 months. Depending on the activity in the market, don’t be afraid to go back two years. Don’t be afraid to get a big fat list. Print that list and drop it in the file, or burn a PDF for your electronic workfile.
  • Sort by relevance. Are there any similar properties that were rented in the past few years? If so, take a minute to look at them and see if they are worthy of further analysis.
  • Does your MLS have a connection to public tax assessment records or does the property’s taxing authority provide an online service? Are there sales in there that did not appear in MLS? Pull those up and look for old listings. Sometimes the property is rented and the tenants make a deal outside of MLS to buy the property from the owner. Call the new owner and ask.
  • Does your MLS have a “showing instructions” section? Is there a code that says “tenant occupied”? Look for that in the list of sales (they don’t need to be specifically similar yet; we are fishing for a market area GRM). If you find a list of these but the amount of the rent is not shown in the listing, try looking for the older rental listing, and/or contact the agent or seller and ask. Or, if the former tenant’s phone number was listed for showing instructions, try calling them. Make a few notes about what you did and what you found.
  • Best news: You find sufficient data to run the GRM approach and can generate a credible opinion of value from that viewpoint. Okay news: You cannot find sufficient data to estimate the market rent or calculate a market derived GRM or both. Failing to find sufficient data is not a failure of the appraisal. It’s just a reportable fact.
  • If you cannot successfully use the income approach to value for this property at this time and provide credible results, at least now your file has sufficient information to support your statement why the approach was not included. Supportable and defensible, credible results. (Remember: The words supportable and defensible are key to the definition of appraisal.)
  • Do not be surprised when you do find sufficient information to develop the GRM income approach, it happens more than most appraisers realize.

Omitting something that significantly affects an appraisal is something you want to avoid. You own this appraisal, which means that you are solely and strictly responsible for its credibility. Facing an inquiry or deposition can make even the most competent and well prepared appraiser nervous. Wouldn’t it make you feel better to have this income approach to value information in your workfile?

Learn about the nuances of limited scope assignments in our brand new online course, Evaluations, Desktops, and Other Limited Scope Appraisals. Plus, check out our on-site course, Limited Scope Appraisals and Appraisal Reports: Staying Compliant and Competitive. Visit McKissock.com/Appraisal to find a classroom near you.

Get your limited scope questions answered. Check out our new online course: Evaluations, Desktops, and Other Limited Scope Appraisals.

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