UNIT 4 - VALUATION
BY
SHAKTHI K
M.ARCH
ASST.PROFESSOR
MSAJAA
VALUATION
Definition
Valuation is the technique of estimation or determining the fair price or value of property
such as building, a factory, other engineering structures of various types, land etc. By
valuation the present value of a property is defined. The present value of property may be
decided by its selling price, or income or rent it may fetch.
The value of property depends on its structure, life, maintenance, location, bank interest,
etc.
Note*
Cost: It is expressed as actual expenditure in terms of money incurred on labour and
materials required for creating the asset (property).
Price: It is an amount paid, expressed in terms of money, for acquiring ownership rights or
any interest in the asset (property). Price normally includes profit of the seller over and
above cost of labour and cost of materials that is incurred by the seller in creation or
acquisition of the said asset.
Value: Value is definition by different authorities in different terms. All these authorities
concur with the view that value is an estimate and not an actual fact.
* COST is past, PRICE is Present and VALUE is future.
VALUATION
Purpose of valuation:
a. Buying or selling property: when it is required to buy or to sell a property, its valuation is
required.
b. Taxation: To assess the tax of property its valuation is required. Taxes may be municipal
tax, wealth tax, property tax, etc., and all taxes are fixed on the valuation of the property.
c. Rent fixation: in order to determine the rent of a property, valuation is required. Rent is
usually fixed on certain percentage of valuation (6% to 10% of the valuation).
d. Security of loans or mortgage: when the loans are taken against the security of the
property, its valuation is required.
e. Compulsory acquisition: whenever a property is acquired by law compensation is paid to
the owner. To determine the amount of compensation valuation of property is required.
f. Valuation of a property is also required for insurance etc.
g. Gross income: gross income is the total income and includes all receipts from various
sources the outgoing and the operational and collection charges are not deducted.
VALUATION
Purpose of valuation:
h. Net income or net return: this is the saving or the amount left after deducting all
outgoings, operational and collection expenses from the gross income or total receipt.
i. Sinking fund: A certain amount of gross rent is set aside annually as sinking fund to
accumulate the total cost of construction when the life of the building is over. This
annual sinking fund is also taken as outgoings.
j. Scrape value: scrape value is the value of the dismantled material. That means after
dismantle we will get the steel, brick, timber etc. in case of machines the scrape value is
metal or dismantle parts. In general the scrape value is about 10 % of total cost of
construction.
Scrape value = sale of useable material – cost of dismantling and removal of the rubbish
material.
k. Salvage Value: it is the value of the utility period without being dismantled. we can sale it
as a second handle.
.
VALUATION
Purpose of valuation:
l. Market value: the market value of a property is the amount which can be obtained at any
particular time from the open market if the property is put for sale. The market value will
differ from time to time according to demand and supply. This value is changes from time to
time for various reasons such as change in industry, change on fashion, means of
transport, cost of material and labour etc.
m. Book value: Book value is the amount shows in the account book after allowing
necessary depreciation. The book value of property at a particular year is the original cost
minus the amount of depreciation year. The end of the utility period of the property the
book value will be only scrape value.
n. Rateable value: Rateable value is the net annual letting value of a property, which is
obtained after deducting the amount of yearly repairs from the gross income. Municipal and
other taxes are charged at a certain percentage on the rateable value of the property.
o. Annuity: is the annual periodic payments for repayments of the capital amount invested
by a party. Annuity is either paid at the beginning or at end of each period of installment.
.
VALUATION
Purpose of valuation:
p. Year’s purchase(Y.P): The capitalize value which needs to be paid once for all to receive a
net annual income of Re 1 by way of interest at the prevailing rate of interest in perpetuity (i.e
for an indefinite period) or for a fixed no. of days.
* Suppose the rate of interest is 5% per annum. One has to deposit Rs 100 to get Rs 5 per
annum
Now, to get Re 1 he has to deposit 100/5 = Rs 20 per annum
Therefore, YP = 100/ rate of interest =1/R
In case of life of property is anticipated to be short and to account the accumulation of sinking
fund and interest on income of the property to replace capital, the year’s Purchase is suitably
reduced.
Years Purchase (Y.P) = 1/ (R+Sc)
Example: Calculate the value of years purchase for a property if its life is 20 yrs and the rate
of interest is 5%. For sinking fund the rate of interest is 4.5%
Solution:
Here, R=5%, R1 = 4.5%
Y.P =1/ (R + Sc)
Coeff. Of sinking fund (Sc) = R1/ ((1+R1)n -1) = 0.045/ ((1+0.045)20 -1) =0.0319
Y.P = 1/(.05 +.0319) =12.21
VALUATION
Methods of Valuation
The following are the different methods of valuation:-
1) Rental method of valuation
2) Direct comparisons of the capital value
3) Valuation based on the profit
4) Valuation based on cost
5) Development method of valuation
6) Depreciation method of valuation
Rental method of valuation
In this method, the net income by way of rent is found out by deducting all outing goings
from the gross rent. A suitable rate of interest as prevailing in the market is assumed and
year’s purchase is calculated. This net income multiplied by Y.P gives the capitalized value or
valuation of the property. This method is applicable when the rent is known or probable rent
is determined by enquiries.
Direct comparisons of the capital value
This method may be adopted when the rental value is not available from the property
concerned, but there are evidences of sale price of properties as a whole.
.
VALUATION
Valuation based on the profit
This method of valuation is suitable for buildings like hotels, cinemas, theatres etc for which
the capitalized value depend on the profit. In such case the net annual income is worked out
after deducting from the gross income all possible working expenses, outgoing, interest on the
capital invested.
Valuation based on cost
This method of valuation is suitable for buildings like hotels, cinema theatres etc. for which
the capitalized value depends on the profit. In such cases the net annual income is worked out
after deducting from the gross income all possible working expressions, outgoings, interest on
the capital invested etc. the net profit is multiplied by Y.P to get the capitalized value. In such
case the valuation may work out to be too high in comparison with the cost of construction.
Development method of valuation
This method of valuation is used for the properties which are in the undeveloped stage or
partly developed and partly undeveloped stage. If a large place of land is required
to be divided into plots after providing for roads park, etc., this method of valuation is to be
adopted.
.
VALUATION
Depreciation method of valuation.
According to this method the depreciated value of the property on the present day rates is
calculated by the formula
D = P [(100 – rd)/100] n
Where,
D – Depreciated value
P – Cost at present market rate
rd – fixed percentage of depreciation (r stands for rate and d for depreciation)
n – The number of years the building had been constructed.
To find the total valuation of the property, the present value of land, water supply, electric
and sanitary fitting etc; should be added to the above value
The value of rd can be taken as given in table below
S.N Life of Building rd value
1 75 – 100 1
2 50 – 75 1.3
3 25 – 50 2
4 20 – 25 4
5 <= 20 5
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DEPRECIATION AND ITS IMPLICATIONS
Depreciation is the loss in the value of the property due to is use, life, wear, tear, decay and
obsolescence.
Obsolescence: The value of property or structures become less by its becoming out of date in
style, in structure, in design, etc. and this is termed as Obsolescence. The general annual
decrease in the value of a property is known as annual depreciation. Usually, the percentage
rate of depreciation is less at the beginning and generally increase during later years.
Types of depreciations.
A. Physical depreciation.
This is very common. The Physical depreciation occurs due to usage of the asset. It is the
normal wear and tear of the asset. All similar objects do not observe similar depreciation.
Quantum of this depreciation depends on several factors.
B. Depreciation due to economic obsolescence.
These types of assets are underutilized. Optimum economic benefit of the land building is not
achieved.
A residential building existing on a plot in commercial zone is glaring example of
obsolescence. Highest and best use of land and building is not made. The asset is put to
inferior usage of residence instead of commercial user resulting in an economic loss. Higher
depreciation in such case may not be unreasonable.
DEPRECIATION
Types of depreciations.
C. Depreciation due to functional obsolescence.
Assets which have become out dated mainly due to their planning and designing being
unsuitable for present day requirements of its users are examples of functional obsolescence.
An old becomes obsolete for usage as there is no demand for such palaces in the market
though they are in good structural condition.
D. Depreciation due to technical obsolescence.
Old load bearing structures with thick walls are now usually not preferred in the urban areas.
Many people now prefer to live high R.C.C. framed structures having thin partition and
external walls. This is now possible due to technological advancements. Timber structures are
also now by R.C.C. framed or steel framed constructions.
DEPRECIATION
Methods of calculating depreciation:
1. Straight line method
2. constant percentage method
3. Sinking fund method.
4. Quantity survey method.
1. Straight line method
In this method it is assumed that the property losses its value by the same amount every year.
A fixed amount of the original cost is deducted every year, so that at the end of the utility
period only the scrap value is left.
Annual depreciation
D = Original cost – scrap value / life in year
D = (C – S ) / n
Where, C- original cost, S- scrap / salvage value, n- life of property in year and D –annual
depreciation.
DEPRECIATION
Example: A Temporary shed has been constructed for Rs 12000. Assuming its
salvage value at the end of 6 years as Rs 3000.determine the amount of
depreciation and book value for each year by straight line method.
Solution:
Straight line method:
D= (C-S)/n
D= Annual depreciation.
C= Capital or Original cost=Rs 12000
S= salvage (or) Scrap value=Rs 3000
n= life of property in years=6 years
D= (C-S)/n
= (12000-3000)/6
=Rs 1500.
DEPRECIATION
2. Constant percentage method
In this method, it is assumed that the property will lose its value by a constant percentage of
its value at the beginning of every year.
Annual depreciation D = 1 - ( S/C ) 1/n
Where, C- original cost, S- scrap / salvage value, n – life of property in year and D –annual
depreciation.
Example: A Temporary shed has been constructed for Rs 12000. Assuming its
salvage value at the end of 6 years as Rs 3000. Determine the amount of
depreciation and book value for each year by constant straight method.
Constant Percentage method:
P = 1-(S/C)1/n
P= constant percentage.
C= Capital or Original cost=Rs 12000
S= salvage (or) Scrap value=Rs 3000
n= life of property in years=6 years
P = 1-(S/C)1/n
P = 1-(3000/12000)1/6
P =1-0.7936 =0.2064
DEPRECIATION
3. Sinking fund method
In this method the depreciation of property is assumed to be equal to the annual sinking fund
plus the interest on the fund for that year, which is supposed to be invested on interest
bearing investment.
IC= i / (1+i)n -1
Where, i = Rate of interest, n = useful life of property.
If A is the annual sinking fund and a, b, c, d etc., represent interest on the sinking fund for
subsequent years, and C= total original cost.
DEPRECIATION
3. Sinking fund method
Example: A man purchase a leasehold property for Rs1200000 producing a net
annual income of Rs 144000. The lease is to run for 28 years. Calculate the sum
of sinking fund when compound interest is 4 %. Also find the actual rate of
income on capital.
Solution:
Sinking fund per Rs1= i / (1+i)n -1
=0.04/((1+0.04)28-(1))
=0.02
Annual sinking fund = 0.02 x 1200000= Rs 24000
Actual Rate of income= (144000-24000)/ (1200000) *100
=10%
4. Quantity survey method.
In this method the property is studied in detail and loss in value due to life, wear and tear,
decay, obsolescence, etc., worked out. Each and every step is based on some logical ground
without any fixed percentage of the cost of the property.
