Hi I'm Jeff Djevdet and welcome to my property investment blog.
I am the director of Pure Acquisitions and here on my blog you will find the regular investment properties that I source, my views on the property market and other property related articles.
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“What’s it worth?” we often ask.
The object in question can be almost anything, from an old painting, to a car or house. Whatever the object is, the answer is the same!
That it is worth whatever a buyer will pay for it.
So, one way to get at the valuation of property is to try to sell the object. But it is impractical to sell something just to establish its value! Especially if the valuation is required only for insurance purposes.
A more practical alternative is to ask for an expert’s opinion. Many TV programs have experts that advise members of the public on the value of their furniture, paintings, silver, and so on.
The same principal is applied to the valuation of property. A chartered surveyor is an expert in the value of property who has wide experience in and knowledge of the property market.
Chartered surveyors are instructed to provide valuations for many purposes. These purposes may be related to mortgages, property rental values, insurance policies, probate, compulsory valuations, and so on.
The five methods of valuation used by chartered surveyors are elaborated below.
Property Jargon Buster
The first and most common method for the valuation of property is:
The investment method of valuation is used for commercial property. It involves converting a property’s income flow (rent) into an appropriate capital sum. The capital value of a property is therefore directly related to its income producing power.
To arrive at the valuation of a property for investment purposes, the formula is:
Value = Rent x Years Purchase (Abbreviated as YP)The Years Purchase (YP) is a multiplier that converts rental income into a capital sum. In a property context it converts rent into value.
The comparison method of valuation is used mainly for residential property. The method applies to capital values. The purchases are not usually for investment purposes, but rather for occupation by the owner. The direct comparison of capital values is used for the valuation of property that is vacant. Any dissimilarity between properties’ capital values should be assessed carefully, together with the pros and cons of each property, to arrive at a fair comparison.
When properties seldom change hands, their cost may be used to approximate their value.
The value is made up of the value of the land, together with the replacement cost of the building. What is required is not the cost of an exact duplicate of the existing building, but the cost of providing the same accommodation in a similar form using up-to-date construction techniques.
The cost method of valuation of property assumes that a prospective purchaser would be prepared to pay the same amount for the premises as it would cost him or her to purchase a similar property elsewhere.
The basic approach for a contractors method to the valuation of property is:
| cost of site | |
| Plus | cost of building |
| Less | Depreciation allowance |
| Obsolescence allowance | |
| Equals |
Value of existing property |
For certain types of property, capital value is estimated from the amount of trade or business conducted at the property. Hotels and public houses offer examples where comparison with other properties is difficult, as the value primarily depends on the property’s earning capacity.
In these cases, the profits method is used to take the gross earnings and then deduct the working expenses, which are interest on the capital provided by the tenant and an amount for the tenant’s risk and enterprise. The remaining balance is the amount that can be paid in rent. The estimated rental income can then be capitalised at an appropriate yield by analysing sales of similar properties.
The basic equation on which the profits method is based is as follows:
| Gross earnings | |
| Less | Purchases |
| Gross profit | |
| Less | Working expenses (except rent) |
| Equals |
Net profit |
This method is used when a property has potential for development or redevelopment. Residual valuations for property are regularly made by people who purchase residential properties that they believe could be made more valuable if money were spent on improvements and modernisation.
| Value of the completed development | |
| Less | Total expenditure on improvements or development (Including developer’s profit) |
| Equals |
Value of site or property in its present condition (Residual value) |
These five valuation methods are regulated and published in RICS Appraisal and Valuation Standards, commonly known as the Red Book.
Remember that estate agents don’t perform valuations. They merely give informal opinions of what a property could sell for. By definition, an opinion means that there’s no legal requirement for it to be accurate.
Only chartered surveyors are qualified to assess properties. They are required to give unbiased and accurate valuations of property.
That’s why only valuations from a chartered surveyor are acceptable for mortgage and insurance valuations.
The most common types of tenancy in the private sector are assured and assured shorthold tenancies and regulated tenancies. Regulated tenancies were the most common form of tenancy up until the end of the 1980s but they have declined in number and are now one of the smaller categories.
Part 1 of the Housing Act 1988 de-regulated new lettings from 15 January 1989. The majority of new tenancies on or after that date are, with certain exceptions, assured or assured shorthold. In assured tenancies the rent is a market rent freely negotiated by landlord and tenant, and may be reviewed regularly. An assured shorthold tenancy is for a fixed term of at least six months, at the end of which the landlord is entitled to possession. In other assured tenancies the landlord can only seek repossession on specific grounds (which include non-payment of rent).
Before March 1997, tenants had to be given a notice in writing to say that the tenancy was an assured shorthold otherwise the tenancy was by default assured. From March 1997 the rules changed and all new tenancies were assured shorthold unless the agreement specifically stated that they were not. As a result assured shorthold tenancies are now the most common form of tenancy.
From 1 January 1973 the fair rent system was extended to dwellings owned by housing associations registered with the Housing Corporation. From 1 April 1975 certain tenancies (with exceptions) of housing associations not registered with the Housing Corporation became regulated under the Rent Act and have been included in the regulated rather than the housing association statistics.
From 15 January 1989 most new housing association tenancies have been covered by the assured tenancies regime described above.
The best sources for rents by type of tenancy are the Survey of English Housing (SEH) and the earlier Private Renters’ Surveys. The Expenditure and Food Survey and the Family Resources Survey can show rents only for the household as a whole. In some households there is more than one tenancy group and they may have different types of tenancy. The SEH also covers lodger tenancies where the lodger forms part of a household which may not itself be a privately renting household.
Resident landlord tenancies are those in bedsitters and flats in converted houses where the landlord lives in the same building. They include lodger tenancies. The categories not accessible to the public include lettings to friends or relatives of the landlord at zero (or very low) rent, lettings that go with a job and college lets. No security tenancies are mainly non-exclusive licenses. Protected Shorthold and Pre-1988 Assured tenancies were arrangements introduced in the 1980 Housing Act which ceased to be available for new lettings after 15 January 1989.
More comprehensive results are in SEH’s annual report Housing in England.
The private rent figures by tenancy from the SEH are the mean of figures for two consecutive years. Even after combining two years, sample variability is large and accounts for the apparent erratic changes over time shown.
Definition:
Yield is a measure of the percentage of income return you get from an asset. This measure applies to a number of assets, but especially shares and real estate.
For real estate, the yield calculation is the percentage of rental income for the purchase price. The yield is calculated by dividing the gross annual rental income by the purchase price (or the current valuation).
Example, if a property is rented for £315 per week, and the purchase price is £409,000, then the yield is (315*52)/409000 = 4.01%
Purchase price versus current valuation
Rental yield can either be expressed as a percentage of purchase price, or current valuation.
Yield calculated with the current gross rent and the original purchase price will provide an indication of how much rents have increased (or decreased!) since purchase.
Yield calculated with the current gross rent and the current valuation allows you to monitor several aspects of your investment property.
Falling yields either means an oversupply of rentals and hence falling rents; or else a rising property market with valuations increasing; or both!!
Increasing yields either means a strong rental market with rising rents; or else a falling property market with dropping valuations; or both!!
One of the more useful measures is to start with an accurate indication of the current valuation of your property and other similar properties in the region, and also current rent prices being achieved in those properties – giving you a measure of the yields typical for the area. You can then use this data to determine whether you are over- or under-charging in rent on your own property.
Cashflow positive
Yield is often used as a quick measure of how likely a property is to be cashflow positive? (that is – income exceeds expenses, leaving a net surplus income from the investment). In rough terms, if the rental yield is 2-3% higher than the current interest rates, then the property is likely to be cashflow positive. However, this depends on a lot of factors and assumptions – and is beyond the scope of this entry.
