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The Income Method Of Property Valuation

Jul 2, 2008
There are many theories involved with the modern property valuation. One of the major forms of conducting a property valuation utilises a methodology named the 'income method'. Put simply this method estimates the worth of a property along the lines of revenue potential, ergo the income that can be generated either from rental income or re-sale value. The method, although rather complicated is used extensively by investors to place a value on any property investment and to assess whether it will be profitable in the long term.

The income method of valuation relies upon certain assumptions in order to be accurate. These are the re-sale value of a property in the future and the predicted income generated from renting. To make these assumptions, existing data of similar properties is used to gain an idea of the potential worth. For instance; a three bedroom house according to recent data will return a re-sale figure more than fifty percent of the original price over a decade. In this time it will be possible to make at least four thousand pounds per annum during that decade from renting.

In order to put this valuation into perspective the income generated must be set against the original capital to assess how profitable the property will prove to be. As well as estimating the profit from the property, it must also be compared to an investment of similar capital expenditure to assess whether the property warrants investment over similar profitable schemes. An example of this would be instead of buying a letting property, it would be an option to invest in bonds as the returns would arguably be greater with less risk.

The hard part of any property valuation and especially with the use of the income method is to estimate the risk. While historical data is useful, it is in no means a far reaching solution. Predicting the ebbing and flowing of the property market is a notoriously difficult task. This is especially true in the modern climate where prices are in decline, but predicting the speed and magnitude of this decline is next to impossible.

The income valuation method however attempts to ignore the current market situation, instead relying upon the value of the property in a decade or so. By taking this future value and comparing it to the price paid now. While this will not give the buyer the price in real terms; that is what it will sell for on the open market, but instead gives a valuation of what the property is worth as an investment.

As well as the eventual re-sale value, the income from renting must also be included in the equation. As putting a property up for rent will create a constant stream of income, the value of this income must be estimated and factored in. Once again however both the estimates of the eventual sale value and rental income depend upon predicting the market; previously stated to be a task that is extremely difficult.

While this method is predominantly used by serious investors rather than home buyers it has various advantages over the 'comparable sales method'. One of these advantages is that this valuation method focuses upon the individual directly, estimating the value of a property to them, and not the market. In addition, the income method is also extremely detailed giving exact figures on what an investor can expect in terms of financial returns unlike the more widely used comparable sales method. So if you are serious about property investment, the income method of valuation could lead you to the immense profits you so hotly desire.
About the Author
Real estate expert Thomas Pretty looks into different ways of conducting a property valuation.
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