Buying for investment is very different to buying a family home. It is a means to increase financial well-being and to make a profit, so determining the value of a property and the potential profit it will generate are vital.
The meaning of value
To establish a fair price for an investment property, we need to go back and understand what value actually means. The International Valuation Standards defines market value as ‘the estimated amount for which a property should exchange on the date of valuation between a willing buyer and a willing seller in an arm’s length transaction after proper marketing wherein the parties have each acted knowledgeably, prudently, and without compulsion’.
So, value could be quite subjective depending on your motives, but there are common approaches used by property professionals that are helpful for investors to get to grips with.
Comparative market analysis
The most common approach when valuing property is the comparative market analysis: the comparison of a property versus those recently sold or on the market. Considering each property different, even if they have identical physical characteristics, value is usually calculated by price per metre squared. This method is only of use if it is consistently applied to a property and directly comparable in the valuation. The key property characteristics are location, age and specification of the property and the permitted use of property zoning- all key decision- making factors for investors.
A more insightful valuation process for investors is the income approach, where the value is based on an actual or estimated income. In the case of an investment property, that income could be in the form of rent; in an owner-occupied building, it could be an assumed rent (or rent saved) based on what it would cost the owner to lease equivalent space.
Where a building is suitable for only a particular type of trading activity, the income is often related to the actual or potential cash flows that would accrue to the owner of that building from the tracing activity. The use of a property’s trading potential to indicate its value is often referred to as the profits method.
The bottom- line
Both of these valuation methods seem simple. But, determining the value of an income-generating property can be fairly tricky when trying to source information and comparable sales data can be time-consuming. And, these valuation methods do not properly factor in possible impact of changing economic variables on the real estate market such as a credit crisis or real estate boom.
At Just Property Group, our industry experts have an active working knowledge of city migration and development patterns and able to determine which areas are most likely to experience the fastest rate of appreciation. This is especially valuable to new investors or those who are not from the region, but whichever approach you use, the most important indicator of its success is how well it is researched.