# REA - Real Estate Appraiser Guidelines - METHODS OF CALCULATING ACCRUED DEPRECIATION - Part 2 - Real Estate Appraisal From A to Z

Reproduction or replacement cost method. The subject property is improved with a duplex, two detached garages, a covered porch for each unit and common driveway and walk.

Measurements and current cost replacement figures for the improvements are as follows:

• Each unit of duplex is 25 x 35 @ \$55.00 per sq. ft.
• Each detached garage is 21 x 25 @ \$20.00 per sq. ft.
• Each covered porch is 6 x 10 @ \$14.00 per sq. ft.
• Driveway is 20 x 100 @ \$2.40 per sq. ft.
• Walk is 3 x 40 @ \$2.40 per sq. ft.

The improvements are now 12 years old and it is determined that such improvements have a remaining economic life of 38 years. The current lot value, by comparison, is \$45,000.00. Depreciation computations are based on the use of the straight line method.

 What is the replacement cost new and using the cost approach method,what is the present value of this property? Each duplex unit (25 x 35 x \$55.00) x 2Each detached garage (21 x 25 x \$20.00) x 2Each covered porch (6 x 10 x \$14.00) x 2Driveway (20 x 100 x \$2.40)Walk 3 x 40 x \$2.40Improvements - Total Replacement Cost New ====== \$ 96,25021,0001,6804,800288\$ 124,018 Depreciation:12 yrs. + 38 yrs. = 50 yrs. life of improvements when new100 / 50 = 2 percent annual depreciation rate, or recapture rate.12 yrs. x 2 percent = 24 percent total depreciation to date.124,018 x 24 percent = Total depreciation in value to date = 29,764 Total value of improvements less depreciationPlus lot value == \$ 94,254\$ 45,000 Total Current Value by Replacement Cost Approach = \$ 139,254

Market data method. A comparative method is frequently used in residential appraisals where the property being appraised can be compared with market data of buildings of similar type and condition.

1. From the sales price of a comparable residential property, deduct an estimate of land value.
2. From the resulting total comparable improvement value, deduct the estimated contributory value of secondary improvements and landscaping.
3. The result is the value of the comparable main residence at its total depreciated value in place.
4. Divide this main residence value by the residence square footage. This yields depreciated unit value.
5. By multiplying the appraised building square footage by the unit value of the comparable residence, the total indicated depreciated value is found for the appraised residence.
 Analysis Figures Sales price of comparable propertyLess estimated land valueImprovement Value === \$ 180,000- 55,000 \$ 125,000 Less estimated value of secondary improvements and landscapingValue of comparable residenceDivide by area of comparable residence === - 23,000102,000/ 2,900 sq. ft. Depreciated unit value of comparable residenceMultiply by size of appraised residence == \$ 35.17/sq. ft.x 2,850 sq. ft. Indicated Depreciated Value in Place of Appraised Residence = \$ 100,234

Advantage of the Market Data Method: This method is the most accurate measure of depreciation from the market.

Disadvantage of the method: It is sometimes difficult to obtain truly comparable market data and occasionally difficult to accurately estimate land value and secondary improvement value for deductions for main residence value indication.

Age-life method using effective age. House has an actual physical age of 25 years with a remaining life of 25 years, thus depreciating at the rate of 2 percent a year. It is the opinion of the appraiser that the subject house is of the same condition and utility as similar houses that are only 20 years of age. Therefore, the house has been assigned an effective age of 20 years. The accrued depreciation would thus be 20 years times 2 percent or 40 percent.

 Analysis Figures Calculated cost newAccrued depreciation (40 percent x \$120,000) == \$ 120,00048,000 Depreciated value of improvementPlus land value == 72,00050,000 Indicated Value by Cost Approach = \$ 122,000

Measuring physical deterioration. A store building has a remaining useful life of 30 years and an effective age of 20 years. Present reproduction cost for the structure is \$230,000. The roof is 75% deteriorated. A new roof will cost \$10,000. The air conditioning and heating systems are 40% depreciated. Their installed cost new is \$8,000. What is the total amount of physical deterioration?

The building, under the straight-line or age-life method, is 40% depreciated (100% / 50 = 2% x 20 years effective age = 40%). This 40% depreciation to the building is to be applied to the amount of the building's reproduction cost less the depreciation already taken on the other components.

 Analysis Figures Depreciation to roof (.75 x \$10,000)Depreciation to air conditioning and heater (.40 x \$8,000)Depreciation to rest of building (.40 x \$212,000) === \$ 7,5003200\$ 84,800 Total Physical Deterioration = \$ 95,500

Income approach - future depreciation. Future depreciation is loss in value which has not yet occurred but will come in the future and is of significance in the capitalization of income method, which will be discussed next. In the income approach to valuation, depreciation is based on the remaining economic or useful life, during which time provision is made for the recapture of the value of improvements. It is the return "of" the investment, as differentiated from the return (interest and profits) "on" the invested capital. Under the income approach, this depreciation is usually measured by one of two methods: straight-line or sinking fund.

In straight-line depreciation, a definite sum is deducted from the income each year during the total estimated economic life of a building to replace the capital investment. If the appraiser estimates that a building will have a remaining life of 25 years, this method provides that 1/25 or 4 percent of the building's value be returned annually as a deduction from net income.

The sinking fund method also includes a fixed annual depreciation deduction from income, but with yearly reserves from such funds deposited into a sinking fund which, with compound interest, will offset the depreciated value of the structure and be collectible at the end of the building's useful life. Accruals for future depreciation to replace the capital investment are in addition to and essentially different from both maintenance charges and reserves for periodic replacement of curable depreciation.

Should there be any estimated salvage value to the improvement at the end of its economic life, this amount need not be returned through the annual depreciation charge under either the straight-line or the sinking-fund method.