valuation notes 1

2014

REAL ESTATE VALUATION

Real Estate Valuation Notes 2014

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Contents

1. Property3

2. Land Ownership.....5

3. Estate..8

4. Characteristics of Real Estate....12

5. Valuation14

6. Market Approach...17

7. Cost Approach..23

8. Income Approach..26

9. Leasehold Interest.28

10. Agricultural Land.32


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1. PROPERTY

1.1 Introduction

Land and buildings together are termed as Real Estate. Real Estate plus bundle of legal rights are

termed as Real Property.

The dictionary meaning of Property is things owned possession.

All useful things owned by man are classified as wealth. Property, on the other hand, is an intangible

concept, being the right to own or possess wealth and to put it to legal uses if one wishes. Property is

thus a legal right that expresses the relationship between owners and their possessions.

The dictionary meaning of Asset is anything owned by a person, company etc. that has money

value and that may be sold to pay debts.

Asset is thus an all encompassing term and includes land and buildings, agricultural land, orchards.

plantations, tanks, fishery, wells, mineral property, plant and machinery, business including intangible

asset, stocks, shares, debentures, intellectual property, gems and jewelery, currency antiquities, arts

and artifacts.

1.2 Property

It is essential that the meaning of the word property be understood clearly before embarking on any

assignment in its valuation.

Definition

Continuous, everlasting use, control and disposition exercisable by owner over thing or object.

Property signifies sum total of all rights and powers incident to ownership.

1.3 Types of Property

1) Corporeal or Tangible

2) Incorporeal or Intangible

TangibleOwnership in material things which can be physically touched or felt, e.g. land, furniture, jewelery etc.

IntangibleOwnership of non-material things which cannot be possessed in physical sense e.g. copyrights, leases, goodwill, easement rights etc.

Customary Classification

1) Movable.

2) Immovable.

Movablefurniture, plant and machinery, stocks, shares, debentures, intellectual property, gems and

jewellary, currency, arts and artifacts etc.

Immovableland and buildings etc.


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1.4 Possession

Word property implies belonging or possession.

Concept of possession is an abstract notion.

It is not purely legal concept.

Possession is a factual concept.

It denotes both physical control as well as having physical custody of the thing.

Person having possession also has power to exclude all others from interfering with his

possession.

1.5 Immovable Property

Definition

A. General Clauses Act -- Section 3(26)

Immovable property shall include land, benefits to arise out of land and things attached to the earth

or permanently fastened to anything attached to the earth.

Attached to earth means-

1. Rooted in earth as trees. 2. Imbedded in earth as walls, building.

3. Attached to embedded for permanent beneficial enjoyment.

B. Transfer of Property Act

No positive definition

Act states that Immovable property does not include standing timber growing crops and grass.

C. Judicial decisions

Immovability is incapacity of a thing of suffering alteration in relation to place, without injury or

damaging its surroundings

1.6 Criteria

The line of distinction between movable and immovable is thin.

The intention of parties key

The mode of annexationimportant

If plant or fixture cannot be removed without great damageintended to be annexed in

perpetuity.


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2. LAND OWNERSHIP

2.1 Introduction

Land is original and basic factor of production.

Land as nature provided consists of the earths crust.

Legally, possession of part of earths crust includes rights to control minerals, gas and oil below the

earths surface as well as air space above the ground.

Shapeinverted pyramid.

2.2 Realty

Land originally provided by nature no longer exists anywhere on earth.

All land directly (by construction if improvements on site) or indirectly (by improvements related to

site) modified by man.

Land together with improvements, is designated as realty

Realty includes land and buildings, as also anything permanently affixed to land i.e. fixtures.

Ownership of realty classified as property.

2.3 Two types of Property

1. Personal property ownership is for a limited term of years. 2. Real property ownership of realty extends for a lifetime.

Lessee possesses personal property in realty, where as lessor owns real property.

Real property consists of land and objects permanently attached to ground.

2.4 Ownership

Ownership is conglomeration of legal rights.

Ownership denotes the legal relation between a person and an object.

It is the sum total of rights a person has over an object.

2.5 Rights:

1) The right to possess an object (though he may not have the physical possession)

2) The right to use and enjoy the thing owned

3) The right to consume, destroy or alienates the things owned.

These are known as the liberties of ownership and power.


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4) The right to enjoy a property indefinitely.

Thus house property remains under the ownership of the landlord until sold.

5) The right to retain residual right over a property.

When property let on lease, owner retains right of reversion i.e. to receive back the property on

expiry of lease.

2.6 Types of Ownerships

Ownership of a property need not be always exclusive. It could be shared one. Property may have

several owners.

Ownership is bundle of rights in a property. The bundle of rights could be of diverse nature

depending on the property in question and must be clearly defined.

Sole ownership

Real property taken in the name of a single juristic person

Co-ownership

When two or more persons own a real property, the right of each member to the property is the right

of co-ownership

Each member is co-owner. The property is not divided amongst members.

Each member owner of property, but the right to own entire property becomes complete only when

all the co-owners come together. Only then they get the right to dispose the property.

Duplicate ownership

Duplicate ownership allows separation of the powers of management and the right of enjoyment.

Example is trust property.

Trust property may be owned by two persons at the same time. One is under obligation to use

property for the benefit of the other. Former is trustee and his ownership is trust-ownership.

Latter is known as beneficiary and his has the beneficial ownership

Vested and contingent ownership

Ownership is vested when the owners title is perfect and clear.

It is contingent when the owners title is imperfect, but would become perfect on fulfillment of

certain conditions.

Example

B transfers a property to A by way of gift.

As ownership becomes vested as soon as b transfers it.


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If B transfers it to A say only after his death, As ownership is contingent one, and becomes

vested on Bs death.

Concurrent ownership

Co-operatives and condominiums are a form of concurrent ownership in multi-unit building complexes

in urban areas.

This is vertical sub-division as well as horizontal, as against only horizontal, where the property is in

the form of exclusive land and building.

This type is extended to commercial uses in addition to residential.

Co-operative societies

Entire land and building comprising the common property belongs to society, which administers the

areas of common uses and facilities.

The individual flat/ shop owner as a member of society, enjoys title to and exclusive right over his

own premises together with proportionate share in areas of common use and facilities.

Society has right of pre-emption on sale.

Condominiums

Building complexes with concurrent ownership by a group of flat owners not falling below a minimum

number.

Apartment ownership act enables such construction.

Flat holders association administers areas of common uses and facilities.

No constraint of pre-emption on transfer.


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3. ESTATE

3.1 Introduction

If term estate used to designate an interest owned, meaning of real estate and real property is

same.

3.2 The kind of estate

Measures the rights and interests an owner has in real property in terms of:

Duration time

Geographical extent breadth, depth and height

Degree sole or co-ownership

Character leasehold, easements

Term Estate has broader meaning than term Title.

3.3 Types of Estates

Freehold or Fee Simple

Highest form of right with regard to real estate.

Owner can:

1. Use property in any manner 2. Abuse property so long as it does not result in a nuisance. 3. Enjoy property by exclusive possession 4. Derive benefits, income or profit from property. 5. Dispose the property by sale, gift or will.

3.4 Government Limitations

Theoretically freeholders right is absolute.

However, even the freeholder is restricted from absolute enjoyment.

Government limitations on ownership imposed for welfare of all citizen

1. Police power - restrict use of property 2. Eminent domain compulsory acquisition 3. Right of taxation 4. Escheat assume ownership of unowned property

3.5 Police Power

Sovereign power inherent in the government, delegated to local authority/ governing agency

To restrict the use, occupation and rights in property to protect wellbeing welfare, morals or safety

-- of citizen.


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Without any compensation.

Resource taken for city planning, zoning and building control.

Regulations of building, fire and health departmentlimitations upon use of land.

3.6 Eminent Domain

Sovereign power inherent in the government

To take any land, by due process of law.

Two requirements to be met:

1) Use must be public

2) Just compensation must be paid.

Used to obtain land for streets, parks, public buildings, public/social purpos

3.7 Right of Taxation

Taxes are levied by government for its support and for maintenance of its branches that protect and

benefit citizen.

It is only fair that citizen pay for protection and benefits received.

Land, due to its permanence and accessibility is convenient article to tax.

It is, therefore, basis for local taxation. Taxes are a cost of land use and operations.

3.8 Escheat

Reversion or escheat of land to the state.

When owner dies, leaving no heirs or will to dispose the land.

Logical solution since land cannot become unowned.

3.9 Other Limitations

Private or contractual limitations on ownership

Usually contained in deeds easements and leases or mortgage instruments.

Freeholder is vested with and has control over bundle of rights. He may grant lease, create

mortgage, induct license, impose charge & so on.

3.10 Lesser Estates in Property

Freeholders right superior to all other rights.

Estates in land of lesser quantity than whole ownership.


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Estate that belongs to a person only under certain terms and conditions or revert in case of certain

events, are less than absolute.

3.11 Lease or Estate for Years

Lease: Freehold estate given by freeholder for use for a fixed duration under certain terms and

conditions.

Lessor: freeholder or landlord.

Lessee: person accepting lease.

Rent: lessee pays to lessor rent or compensation for use of land

Lease Document: written promise / commitment to perform certain duties e.g. pay taxes, maintain

property and return in good condition on termination of lease.

3.12 Sub-Lease

Lessee may transfer his interest for a shorter period than the remaining period of lease, with approval

of lessor and in conformity with the lease terms .

Sub lessee: the transferee

Head lessee: the main lessee.

Head lessee collects the profit rent.

3.13 Mortgage

Another property interest is created when freeholder mortgages his property i.e. pledges it as security

against loan.

Mortgagor: Owner of property

Mortgagee: Lender of loan

Failure to return principal or interest authorizes mortgagee to sell the mortgaged property to

liquidate the debt.

Equity: Mortgagors property rights.

The mortgagor and the mortgagee have become the diverse owners in a single property.

Their interests are complementary

3.14 Life Estate


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Duration of interest of person is limited to his lifetime.

Person / owner of life interest, provided with use of property during his lifetime, after which it

terminates.

After termination, the estate may revert to freeholder -- or as desired by him -- to another person

called the Remainder.

Since property is conveyed to a person for the term of his life:

1. Life estate holder has control over property only till death. 2. He, therefore, cannot make any contract beyond the term of his life. 3. He must also use the land reasonably so as to leave it intact for reversioner 4. .His responsibility for payment of taxes should not exceed the benefit he derives from the

land. As per the provisions of section 6(d) of the Transfer of Property Act, an interest in the property

restricted in its enjoyment to the life estate holder personally cannot be transferred by him.

3.15 Easements

Easements are means by which one party may gain the use of someone elses land without obtaining

the title.

Owner may use adjacent land owned by his neighbour on a temporary or permanent basis

Definition:

A right granted by a landowner to someone for the nonexclusive use of a portion of the land for a

specific purpose.

Easement rights are freely bought or sold in the open market.

Types of Easements:

1. Right of passage or access through private alleyways 2. Right of use of airspace over a property


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4. CHARACTERISTICS OF REAL ESTATE

4.1 Special Characteristics of Landed Property

1) It is more durable than other commodities.

2) Landed property is heterogeneous.

3) The price of landed property tends to be high relative to current income.

4) Landed property is often purchased as an investment.

5) The supply & demand & also value of property is usually affected by legal factors.

6) Dealing with landed property requires lengthy and complicated professional advice.

7) Landed property is immovable.

4.2 Factors Affecting the Demand for Landed Property

1] Increase or decrease in population.

2] Changes in the general standard of living.

3] Change in taste and fashion.

4] Change in type of society.

5] Change in technology.

6] Movements of population.

7] Improvements in methods of transport and communications.

4.3 Factors Affecting Supply of Landed Property

1] Changes in taste and fashion.

2] Changes in Govt. Policy & Legislation.

3] Changes in prices of building material.

4] Changes in technology.

5] Changes in the economic situation.

6] Institutional factor Institutional Planning.

4.4 Real Estate Market

Property market differs from market of other commodities.

Perfect competition is hard to obtain.

Special Characteristics of Property Market

i. Heterogeneity and lack of standardization.

ii. Total supply of land is fixed.

iii. Inelasticity of supply.

iv. Effect of various legislations.


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v. No central market.

vi. Imperfect and inadequate information.

Imperfect and Inadequate Information

Lack of correct and adequate information about transactions contributes to imperfect competition.

Such inadequacy is mainly due to

1. Method of conducting transactions conducted privately.

2. Various rights and interests are transacted which makes comparison difficult.

3. Non-availability of adequate and reliable information information available from authentic sources / offices, authorities needs to be supplemented by site enquiries.


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5. VALUATION OF REAL ESTATE

5.1 Cost and Price

COST Expenditure on inputs.

PRICE Expenditure on input + Profit.

5.2 Value

- Result of Interaction of Demand and supply.

- Value is not intrinsic in Object. People create Value.

- Individual / Subjective Value.

- Market / Objective Value.

5.3 Characteristics of Value

Fundamental principle of economics is that, for an object to have value. It must satisfy following basic conditions

Utility The power to render a service or fill a need.

Scarcity In relation to supply and demand and possible alternative uses.

Demand Need with monetary power to fill demand.

Transferability Rights of possession and control of ownership of property.

5.4 Valuation

It is an art or science of estimating the value for a specific purpose of a particular interest in property at a particular moment in time taking into account all features of the property and considering all factors of the market.

Valuation is always for highest, best and most profitable legal use.

5.5 Purpose of Valuation

I) Purchase for investment or for occupation. ii) Sale / Transfer of the property. iii) Mortgage and other security. iv) Rent Fixation. v) Land Acquisition. vi) Betterment Charges. vii) Auction bids. viii) Probate. ix) Speculation. x) Taxation. xi) Insurance. xii) Partition. xiii) Court Fees & Stamp Duty Ready Reckoner. xiv) Ratable value. xv) Arbitration. XVI) Leases interest/lessees interest. Xvii) Merger and acquisition of industrial units. Revaluation of assets for market capitalization.


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5.6 Interests in Landed Property

1] Freehold interest. 2] Leasehold interest. 3] Sublease hold interest. 4] Life interest. 6] Rights of occupancy. 7] Right of way. 8] Right of light and ventilation.

Particular Moment in Time

The valuation of a property is related to the date of valuation and is different at different moments in time.

5.7 Features of the Property

Location Situation User Residential/Industrial/Commercial Size Small/Gross Shape Regular/Irregular F.S.I. permissible Road Frontage Small / Large, Important Road / Local Road

5.8 Factors of Market

Impact of Political, Legal, Social, Urban and Economic forces influence the valuation of the property.

5.9 Types Of Landed Property

1] Residential.

a) Houses of various types.

b) Flats and Tenements.

2] Industrial.

i) Factories.

ii) Warehouses and Godowns.

3] Commercial.

a) Shops.

b) Offices.

4] Agricultural.

5.10 Definition of Market Value

The market value of a particular interest in landed property may be defined as the amount money offered by a willing purchaser to a willing seller of that interest, in the open market, where there is competition, and both parties are being actuated by economic considerations, and where there is no undue pressure on either of them.


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5.11 Types of Values

Property has two types of values:

1. Capital value

2. Rental value

5.12 Types Of Valuations

1] Statutory valuations valuations governed by legislation.

2] Non-statutory valuations valuations, which stem from natural events.

5.13 Approaches to Valuation

Three approaches to valuation.

1 Market Approach

2 Cost Approach

3 Income Approach

Not exclusive of each other.

All three approaches involve comparisons of various legal, physical, social and economic factors.

5.14 Methods of Valuation

1] The Direct Comparison or Comparative Method.

2] The Contractors Method.

3] The Profits or Accounts Method.

4] The Residual Method.

5] The Investment Method.


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6. MARKET APPROACH

6.1 Comparative Method

- Data collection (similar properties, recent transactions)

Find out consideration actually paid for other similar properties in the same locality and three to five years prior to the date of valuation.

6.2 Factors to Be Taken Into Consideration:

1] Location of property.

2] Situation.

3] Level of amenities & facilities.

4] User of property.

5] Age of property.

6] Condition of property.

7] Facilities available in the property.

8] Size (floor area) of property.

The Evidence The Market

Should be based on

Transactions of similar properties

IN the same area

Obtained from

Recent Records

Comparative Valuation

Should be fair stable

Underlying economic facto should be studied

of Frequent transactions

The evidence

Transactions of similarproperties COMPARATIVE

VALUATION

In the same area

Recent Records Frequent Transactions

The Market

Should beFairly stable

UnderlyingEconomic

Factors shouldBe studied

Comparative Method

6.3 Total Weightage Score System


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- There are about 70 to 85 factors of comparison

- Adopt weightages for each based on site enquiries giving the preferences of the local people.

- Find out total weightage score for properties in sales transactions and the property under

Valuation and compare. - This would bring objectivity to the process.

6.4 Factors or Aspects Of Comparison 1 Physical

Land Location / situation Building 2 Legal Aspect Title Tenure Easement rights Other encumbrances

Town Planning acts Central and State govt. legislations

3 Social Aspects 4 Economic Aspects

Physical Aspects

Land Size Shape Access Frontage Frontage depth ratio Topography / level Soil classification Orientation Vista View aspect Status of land Stigma effect Vastu shastra aspect Feng shui aspect Location


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Natural forces Environmental aspects Work places Business centre / places Social facilities Recreational amenities Civic amenities Transport facilities

Railway stations City bus services

Shops Availability of utility services For Residential Flats or Shops

Floor Front or back side Orientation

Buildings Engineering aspect Architectural aspect Utility services within premises Common services and amenities Engineering Aspect Specification Workmanship Type of structure Structural design / strength Type and strength of foundation Maintenance and repairs Age and future life Area Architectural Aspects Architectural design Arrangement of spaces Rooms Light and ventilation Faade and elevation Utility Services Water supply Electricity Sewerage Drainage Common Services


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Parking for vehicles Lifts Terrace facilities Garden / childrens play area Sweeper Watchman Fire fighting Club / gymnasium / swimming pool Legal Aspects Title or Ownership

Single owner Joint owners Co-owners with undivided shares Tenure Basically freehold And leasehold Toka Foras Inami Devsthan inam Sanadi Easement Rights Right of way Right of light and ventilation Dominant property Subservient property Other Encumbrances Mortgage Litigation in court Encroach Slums /hutments Town Planning Acts Development plan Land use zoning Land designated for acquisition Development Control Rules Central and State Govt. Legislation Rent Control Act Urban Land Ceiling Act National Highways Act Railways Act Civil Aviation Authority


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Coastal Regulations Indian Electricity Act Social Aspects Community aspect Economic and social status of residents Anti- social elements Economic Aspects Gross annual income Annual outgoings Net annual income Immediate repairs required Financial liabilities

6.5 Belting Method

If the depth of the plot is more than the depth of the comparable plots in sales considered, this method is

adopted to value the land.

1st Belt

2nd Belt

3rd Belt

X

1 X

Remaining

Full Value

3/4th Value

Of 1st Belt

Value

Of 1st Belt

Recess Land

of Belt Value

Recess Land of Belt Value

R O A D

Belting Method

Consideration for Different Lands

Land with return frontage: - Give positive allowance depending on the importance of road on

which return frontage.

Land with irregular shape: - Carve out regular shape by drawing perpendiculars to road and give

negative allowance to remaining land.


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Hypothetical Layout Method

This method is used to value property with Development potential.

Development potential is also called Latent Value.

Increased value of property after carrying out development will be more than expenditure incurred.

Method

Assess optimum development for the property. Estimate gross Development value [A].

Assess cost of development [B].

Assess Developers risk and Profit [C].

Residual Value= [A] {[B] +[C]}.

Cost of each item of infrastructure is estimated and allowances made for each relevant factor which are

deducted from sale value of small plots, carved out from larger plot

Cost of development will include:-

1. Building costs

2. Architects fees [% of cost of development]

3. Engineers fees

4. Other professional fees [% of proceeds of sell]

5. Advertising and legal fees

7. COST APPROACH

7.1 Contractors Method


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Used in assessment in case of properties not usually sold, not intended to be sold or even incapable of being sold in open market.

Properties classified into three groups:

1] Public properties --

Museums, schools, colleges, libraries.

2] Properties having potential for profit

Stadiums, theatres, music halls, race course etc.

3] Properties of public utility undertakings

Railways, water works, electricity undertakings, docks.

Method

1] Estimate value of land in its existing use.

2] Estimate cost of construction of building.

3] Allow for depreciation on account of age, obsolesance etc.

4] capital value = land value plus depreciated cost of building

Methods To Determine Replacement Cost Of Building:-

1. Plinth area rate.

2. Cubical content rate

3. Item-rate.

4. Cost Index Method.

7.2 Cost Index Method

Mainly devised and adopted by Central PWD engineers for working out quickly cost estimates.

Cost Index

Cost index is worked out by

1. Select one base year.

2. Select standard building design as per government norms.

3. Work out its detailed quantity as per standard govt. Specifications

4. .Adopt rates of building items as prevalent in locality.

5. .Work out cost per unit area rate.

6. This is cost index of 100 for that base year.

Cost index for other years are worked out by considering the price rise in building materials and labour in Delhi area.

Basic cost index and subsequent cost indices worked out similarly for other cities by considering price variations in building materials and labour costs in base year at Delhi as compared to that in the year of valuation in the city where property under valuation is situated.

7.3 Depreciation

Depreciation is calculated for period of present life with due consideration to its future life and total life.


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Approximate life span:-

R.C.C. framed Structure 75-90 years

R.C.C. Brick built 60-65 years

C.G.I.Sheet+BBMasonary 50-60 years

A.C.C.Sheet+BBMasonary 40-50 years

Country Tiled + bricks 20-30 years

Temporary sheds 10-20 years

Weakness of Contractors Method

No direct co-relation between cost of property and Market value, which depends on forces of supply and demand.

Requires assumptions relative to unit costs. More probability of assumption being wrong.

Requires assumptions as to original economic life and/or remaining economic life. Greater probability of assumptions being in error.


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8. INCOME APPROACH

8.1 Concept Capability of landed property to produce income over time provides the basic for the income approach to valuation.

8.2 Landed Property as Investment

Investment can be defined as the outlay of funds on the purchase of any asset which is not consumed immediately but instead yield up its benefits in a stream overture.

8.3 Investment Method of Valuation

The income from the landed property is the rent

Rent bears the relationship with the capital value.

Capital value = rent x multiplier Gross rent is not income

Capital value = (rent- outgoing) x multiplier But (rent- outgoing) = net income

Capital value = net income x multiplier

Multiplier is called Years Purchase in U K Or Rent Multiplier or Conversion Factor in U S A.

8.4 Years Purchase Definition: Capitalized value required to be paid once and for all, in order to receive annual income of Re. 1/-for specified period of time at specified rate of interest.

Capital value x Re. 1

Y P = ------------------------------------ Rate of capitalization

Factors determining the soundness of investment:

1. Safety of capital 2. Liquidity of capital 3. Safety of income 4. Regularity of income 5. Ease of collection of income.


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Order of Priority

Order Type of Investment

1 2 3 4 5 6 7 8 9 10

Govt. security Agricultural land Residential houses Shops in good position let to single tenant Offices let to single tenant Shops in secondary position Offices let in suits Residential hall Factories Ware houses, godowns

Yield Relative advantages and disadvantages of an investment will be reflected in the yield, which carries with the price. As the price of investment goes up yield decreases and as the price of the investment goes down the yield increases. General rule

Lower the risk involved in a given investment, the lower is the rate of interest expected by an investor

and

More the risk involved, the higher the rate of interest expected by an investor.

8.5 Gilt Edged Security Advantages as an alternative investment

1. Safest avenue of investment 2. Fulfill all criteria of security 3. Bench mark for other types of investments 4. Index for decision making for other forms of investments by comparing with gilt edged

securities.

8.6 Remunerative Rate of Interest It is the rate of interest at which the capital is remunerated. The investor is always interested in this rate of interest.

If government security is considered as a datum line, we can derive the rate of interest appropriate to various forms of the landed property, depending upon various factors that an investor would consider while making the investment decision.


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8.7 Remunerative Rates for Different Types Of Landed Properties

Type of Property Rate of Interest

Agricultural land Shops in good position let to single tenant Shops in secondary position Offices let to single tenant Offices let in suits Factories Warehouses Houses Flats Chawls

6% 6 to 8% 8 to 10% 6 to 7% 6 to 9% 10 to 12% 10 to 12% 6 to 8% 7 to 10% 8 to 12%

8.8 Accumulative Rate of Interest It is the rate at which the capital is accumulated. This investment is the safest form of investment. Naturally the rate of accumulation of capital is always less than the remunerative rate of interest

8.9 Sinking Fund Definition: An annual recurring fund required to be set aside every year, for a given period of time, at the given rate of interest to recoup capital invested in a property, interest or return from which would cease after a given period of time. Hedge against Inflation An investment, which appreciates so as to maintain its real value during the time when the purchasing power of a rupee is falling, provides the investor, with a security which is referred to as a "Hedge against Inflation". An investor may be willing to accept a lower yield; that is he will be willing to pay a higher price for an investment, which can provide a hedge against inflation".


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9. LEASEHOLD INTERESTS

9.1 Rights in Property A property is made up of bundle of rights. Freehold right is the highest form of right with regard to Real Estate. However, there are contractual limitations on ownership, which are usually contained in deeds such as easements and leases or mortgage instruments.

9.2 Leasehold Right . When an owner of Real Estate does not wish to personally use the property or wants to derive some measure of income from its ownership, he or she can allow another person to use it in exchange for valuable consideration. This is usually accomplished by means of an agreement known as a lease. Lease A lease is a contract between a property owner (known as the lessor) and a tenant (the lessee) that transfers the right to exclusive possession and use of the landlord's property to the tenant for a specified period of time. This agreement sets forth the length of time the contract is to run, the amount to be paid by the lessee for the right to use the property, and other rights and obligations of the parties.

Rent

Periodical payment to the landlord / lessor for use of the property.

Amount at which a property would let at a particular time

By willing tenant to willing owner of property

Landlord considering the merits and demerits of his property and tenant weighing advantages and disadvantages of various properties available

9.3 Types of Rent Market rent: Fair and reasonable rent decided by landlord and tenant in open and competitive market Ground rent: Rent as payment for land only.

Two types Unsecured -- Secured

Rack rent: Payment for land and building

Gross rent: Total rent received from the property Net rent: Rent exclusive of all outgoings Rising rent: Rent which goes on increasing during the term Virtual rent: Rent + annual equivalent of premium or capital expenditure. Hypothetical rent: Principle of hypothetical rentrent reasonably be expected from hypothetical tenant. Principle of communibus anistake things by average.(average year) Principle of rebus sic stantibus consider circumstances prevailing at the time of assessment (natural or due to acts) Standard rent: Rent fixes by court under clause (d) of section 11(1) of the rent act. Or, rent at which property let on or before 1st Sept.1940 Or, rent at which property was first let after 1st Sept. 1940.


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9.4 Outgoings

1. Property tax 2. Land revenue 3. Ground rent 4. General repairs 5. Insurance 6. Upkeep and services (to landlord where let to several tenants) 7. Collection and management charges 8. Losses through voids

9.5 Leasehold Estate When an owner of real property leases his or her property to a tenant, the tenant's right to occupy the land for the duration of the lease is called a leasehold estate. Leasehold estate, though it gives the lessee an interest in real property, it is in fact personal property.

Requirements for a Valid Lease Competent parties. Mutual assent. Legality of object. Contract in writing. Valuable consideration. Description of the premises. Signatures. Yield from Leasehold Whenever there is some disadvantage attached to an investment, an investor expects a higher return on such investment. Naturally, the investor in leaseholds who is faced with some disadvantages would expect a higher return or yield to compensate him for these disadvantages.

Valuation of Interests The landed property is not owned per se; what a person owns is an interest, may be either a freehold interest or leasehold interest. Even though a lessor gives property to a lessee on lease, he still continues to own an interest in the property. It is therefore possible for many different persons to have interest in the property, so that there may be a hierarchy of interests in that property at any given time.

Disadvantages of Leasehold Property The income from the leasehold property is available for limited number of years. Hence, the capital of an investor is sinking slowly to the zero level at the end of the term of the lease. The lessee is, therefore, expected to set aside a certain amount / fund to recoup the sinking capital. This fund is called a sinking fund. The provision and management of this sinking fund create additional difficulties of management of leasehold property. Lessee has to make payment of rent to the lessor and at the end of the term re-invest the capital in some other form of investment. This adds to his managerial responsibilities

As the unexpired period of the lease goes on diminishing the difficulties in selling such interest goes


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on increasing. Thus liquidity of capital becomes rigid. The lessee is governed by the covenants of the lease. Therefore, he has less freedom as compared to the freeholder. Effect of Disadvantages Whenever there are some disadvantages attached to an investment, an investor expects a higher return on such investment. Naturally, the investor in leaseholds who is faced with the above disadvantages, would expect a higher return or yield to compensate for these disadvantages.

Effect on Interest Rates It is the usual practice to consider remunerative rates of interests in case of leasehold properties higher by 0.5% to 2% than the corresponding remunerative rates of interests in freehold interest. The smaller increase will apply to the more secure type of investments and the larger increases to the less secure properties such as factories, warehouses etc. Value of Lessees Interest The value of the lessees interest in the property, when the term of the lease begins, is maximum and on the date of expiry of the lease, it becomes zero, because on the expiry of the lease, the income from the property is zero. Thus the value of lessees interest goes on diminishing as the time elapses. It is maximum on the date of beginning of the terms of the lease. It then gradually reduces and becomes zero on the date of the expiry of the terms of the lease.

Provision by Investor A prudent investor will have to make provision in such a way that he recoups his investment at the end of the term of the lease. This can be done by setting aside certain amount and investing it so that by the end of the term of the lease that amount accumulates to original value of investment. This investment, which gives him his original invested amount, will have to be invested in the safest form of investment. It is, therefore, axiomatic that it would be at the less rate of interest.

Dual Rate of Capitalization While valuing the leasehold interest dual rates are used. Remunerative rate of interest, at which the capital is remunerated and Accumulative rate of interest at which the capital is accumulated. Hence while valuing the leasehold properties dual rate valuation tables are used to find out Years Purchase (multiplier) to find out value from net income.


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Value of Leasehold Property Value of the leased property consists of

Lessees interest and Lessors interest. Lessors Interest Value of lessors interest will be capitalized value of the lease rent (net value) for unexpired period of the lease plus the present value of the stream of income, which he is likely to receive from the property after the expiry of the lease. This later part is called reversion of the estate to the lessor.

Lessees Interest Value of lessees interest will be the capitalized value of the net income (profit rent) for the unexpired period of lease. (Dual rate ).


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10. VALUATION OF AGRICULTURAL LAND

10.1 Approaches 1. Market approach 2. Income approach

10.2 Market Approach Factors of comparison

1. Land 2. Irrigation facilities and electric supply 3. Cropping pattern and trees 4. Ancilliary buildings, fencing etc. 5. Equipment and machinery

Land Size / area Shape Situation Access Transport facilities Soil classification Lie of land (slope, contours, height etc ) Land drainage Revenue assessment Land development Deep ploughing / sub-soiling Soil and water conservation measures Water holding capacity Manures and fertilisers

Cropping Pattern Quality and depth of soil Irrigation facilities available Seasons and climatic conditions Trees Fruit bearing trees:

1. Quality of fruit 2. Fruit bearing capacity 3. Fruit bearing life 4. Gestation period

Crop Rotation To help building up of / infestation of pests and diseases To help soil to recoup fertility / maintain structure To build cash flow management / regulate supply of a product in the market.


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Crop Nutrition Nitrogen physical growth and enhancement of clorophyll in leaves

Prosperous building disease and pest resistance

Potassium reproduction / flowering

10.3 Income Approach Recommendations of Paranjpe Committee Mainly applicable for non-irrigated lands where data and evidence for gross annual income, annual cost of cultivation including expenditure on inputs is available or can be worked out. Method Steps 1. Adopt appropriate crop pattern.

Village form xiii at village level Major crop taken over 70% to 80% of Village area Adjusted to 100% Averaging it over last 7 years

Note: exclude crops requiring perennial irrigation --- banana, sugarcane

2. Estimate average yield of crop. Taluka level average yield rates per hectare for non-irrigated crops Available with statistical branch of the state directorate of agriculture

3. Estimate gross income from main produce at prevailing market price. 4. Estimate gross income from bye products and total gross annual income

5. Estimate annual cost of cultivation

Labour hired labour wages Inputs Cost of seeds. - Fertilisers, - Insecticides and pesticides

--Taxes -- land taxes / assessment, - Irrigation cess , - Electricity charges

- Interest on borrowed capital

6. Estimate net annual income per hectare. 7. Capitalise net annual income at appropriate rate of interest.

(6.75% in perpetuity i.e. Y p 14,8 say 15) 8. Add depreciated reproduction cost of structures.

valuation notes 1

Documents

real property

intellectual property

mineral property

types of property

transfer of property

possession word property

immovable property definition

characteristics of real