Lesson 7 Exercises – Processing the Income Stream (The Income Approach to Value)

Appraisal Training: Self-Paced Online Learning Session

• Lesson 1
• Lesson 2
• Lesson 3
• Lesson 4
• Lesson 5
• Lesson 6
• Lesson 7
• Lesson 8
• Lesson 9
• Lesson 10
• Lesson 11
• Lesson 12
• Lesson 13
• Lesson 14
• Lesson 15
• Lesson 16
• Lesson 17
• Lesson 18
• Lesson 19
• Lesson 20
• Exam

Check Your Knowledge

1. The total amount of income that could be produced by real estate is referred to as:
   1. Cash flow
   2. Net operating income
   3. Gross income
   4. Effective gross income

Solution:

2. What rent should the appraiser use in making a gross income estimate on a free-and-clear, no lease valuation?
   1. Contract rent
   2. Economic (market) rent
   3. Excess rent
   4. Surplus rent

Solution:

3. How is the income from renting garage space in an apartment building complex handled by an appraiser?
   1. It would be included as "other income" in calculating gross income
   2. It would be ignored because the income from a garage is derived from personal property
   3. It would be deducted from net operating income
   4. It would be used to reduce the operating expenses

Solution:

4. Which of the following statements BEST describes how much of an adjustment an appraiser should make for vacancy allowance in a property?
   1. 5 percent of gross income
   2. 1 percent for each year the property has been rented
   3. Somewhere between 5 percent and 10 percent
   4. The amount will vary with each property

Solution:

5. To estimate effective gross income, which of the following items are required?
   1. Gross income and operating expenses
   2. Gross income and vacancy and collection loss
   3. Gross income, operating expenses, and debt service
   4. Gross income and property taxes

Solution:

6. Which of the following expenses is NOT considered by an appraiser in estimating the net operating income of a particular property?
   1. Property insurance
   2. Mortgage payments
   3. Property management fees
   4. Upkeep and maintenance

Solution:

7. When appraising income-producing property, the appraiser often needs to estimate the replacement allowance. When doing so, the appraiser should avoid duplication with certain items that may already have been included in which of the following expense categories?
   1. Fixed expenses
   2. Repair and maintenance
   3. Property management fees insurance and taxation escrow accounts
   4. Insurance and taxation escrow accounts

Solution:

8. In the context of real estate operating expenses, what is meant by the term fixed expenses?
   1. Expenses that never change
   2. Expenses that are fixed for the holding period
   3. Expenses that do not vary with the level of occupancy
   4. Expenses that are guaranteed by the seller

Solution:

9. Which of the following items is an example of an outlay that might be included in a reserve for replacements?
   1. Building replacement at the end of its economic life
   2. Roof replacement when it is worn out
   3. Allowance for painting
   4. Refinancing fees

Solution:

10. What term would apply to a lease that requires the lessor to pay all operating expenses associated with the real estate?
    1. Index lease
    2. Gross lease
    3. Net lease
    4. Pass through lease

Solution:

11. Estimate the annual gross income of the subject property based upon the following data:

    Neighborhood: All stores are 100 feet in depth; and, except for front footage, all of the stores are similar in age, quality, condition, and other units of comparability. The neighborhood has averaged 5 percent vacancy and collection losses over the last five years.

    Subject Property: The subject property has 50 feet of frontage. The building was leased four years ago for $1,000 per month. The term of the lease is ten years.

    Comparable Properties (Rental Data):
    1. The store has 40 feet of frontage and was recently leased for a five-year period. The agreed upon rent is $1,200 per month.
    2. This store with 50 feet of frontage that was recently rented for a guaranteed $1,200 per month. In addition to the guaranteed rent, the tenant agrees to pay 6 percent of all gross sales over $30,000 per month. Gross sales for the last five years have averaged $35,000 per month. The term of the lease is five years.
    3. This store has 160 feet of frontage. The contract rent is $3,000 per month. The lease was written five years ago and has 20 years remaining on it. The tenant has partitioned the building into four separate stores of equal size. These are subleased as follows:
       1. $1,300 per month; month to month rental agreement.
       2. $1,200 per month; five-year lease signed one year ago.
       3. $1,000 per month; five-year lease signed four years ago.
       4. $1,100 per month; ten-year lease signed six months ago.

Solution:

12. Determine the Net Income Before Recapture [NIBR] for a duplex renting for $850 each side. The tenant pays the utilities only. The owner pays $50/mo. for water, sewer, and garbage for the building, insurance is $700 per year; taxes are based on a $175,000 value with a 1% tax rate; and maintenance is $70/mo. each side. Both units have been occupied for several years; it is appropriate to make no adjustment for vacancies and collection losses.

Solution:

13. Determine the Net Income Before deducting for Recapture [NIBR] for a 40,000 sq. ft. warehouse that rents for $0.35 per sq. ft. / mo. The insurance cost is $0.11 per sq. ft./year; maintenance costs and reserves for replacement is $0.40 per year; water and sewer cost is $150/mo.; garbage cost is $200/mo.; and taxes are based on a value of $1,500,000, with a tax rate of 1%. Vacancies and collection losses are 7%.

Solution:

14. Determine the Net Income Before deducting for Recapture [NIBR] for a 60,000 sq. ft. office building that rents for $1.85 sq. ft. / mo. The expenses are as follows: vacancy 7%; insurance $10,800; management 7% of effective gross income; maintenance $28,800; utilities $108,000, janitorial $43,200; and property taxes based on a value of $9,000,000 with a rate of 1%.

Solution:

15. Determine the Net Income Before deducting for Recapture [NIBR] for a 30,000 sq. ft. retail store that rents for $0.70 sq. ft. / mo. on a net rent to the owner. Vacancy and collection loss are estimated at 3.5%. The only expenses to the owner are a 1% management cost and a pro rata share on the vacant area that amounts to $700/mo.

Solution:

16. Using the actual income statement provided, determine the Net Income Before deducting Recapture [NIBR] for an apartment complex with eight 2-bedroom units renting for $650 per unit. The market vacancy and collection loss is 5%. The building manager has supplied you with a statement of income and expenses for the past year. This statement, prepared by his accountant, shows actual dollars received and spent.

    Income and Expense Statement

    • Actual Rents Received$ 58,000
    • Expenses45,356
      • Corporate Franchise Tax$8,700
      • Depreciation8,000
      • Insurance1,800
      • Interest on Mortgage5,000
      • Manager's Salary2,166
      • Miscellaneous Repairs2,500
      • Real Estate Property Taxes9,000
      • Reserve for Replacement1,190
      • Scheduled Maintenance3,600
      • Utilities3,400
    • Net Annual Profit$ 12,644

Solution:

17. (1) Using the property's actual Income and Expense Statement below for this year, process the gross income to the actual Net Income Before deducting for Recapture AND property Taxes [NIBT]. (2) Would this be the same NIBT you would use to value the property; if not, what would you use?

    The owner of a 25-year-old apartment building has supplied you with this statement of income and expenses for the past year. The statement, prepared by his accountant, shows actual dollars received and spent. The building contains 15 units, of which eight are studio apartments that rent for $300 per month; five are one bedroom units at $360 per month; and two are three-bedroom units at $540 per month. The rental schedule is well in line with other apartments in the neighborhood. A 5 percent vacancy and collection loss factor is reasonable for the area. The cost to replace the building today is $540,000.

    Income and Expense Statement

    • Actual Rents Received$ 57,520
    • Expenses:42,744
      • Supplies$ 660
      • Roof Repair1,000
      • Water1,000
      • Corporation Franchise Tax2,000
      • Janitor's Salary3,000
      • Miscellaneous Repairs3,130
      • Insurance (3-year Premium)3,600
      • Manager's Salarty3,600
      • Electricity3,700
      • Real Estate Property Taxes4,136
      • Interest on Mortgage4,548
      • Gas6,200
      • Depreciation8,000
    • Net Annual Profit$ 14,776
    Miscellaneous repairs included exterior painting and some interior painting and decorating. Similar properties indicate a 25 percent ratio of allowable expenses to effective gross income.

Solution: