Opinion ID: 2622017
Heading Depth: 1
Heading Rank: 7

Heading: The income capitalization approach to determine a property's full cash value

Text: The income capitalization approach to valuing real property is based on two factors: (1) the annual income that a buyer expects to receive from the property, usually in the form of rents; and (2) the rate at which a buyer could expect a return on his investment. [20] Thus, this method takes into account both the property's income-generating potential and the time-value of money in determining the property's current value. The price that a buyer is willing to pay for the income-producing real property, or the property's full cash value, is determined based on the net operating income that the property will likely yield in a year's time and the property's capitalization rate. [21] A property's net operating income is calculated by taking its effective gross income and then subtracting expenses, including maintenance and upkeep. [22] A property's capitalization rate is the percentage rate at which the buyer expects to recoup his or her investment in the property, or the property's expected rate of return. [23] A buyer's expected rate of return is a function of numerous external and internal factors, including the property's age, kind, condition, depreciation, location, market conditions, and any other risk associated with investing in the property. [24] Once an assessor determines a property's net operating income and its capitalization rate, the property's income capitalization value is calculated by dividing its net operating income by its capitalization rate. [25] For instance, this approach figures that a buyer who expected a 10 percent rate of return would be willing to pay $500,000 for property that generates a $50,000 net operating income ($50,000/.10 = $500,000). Thus, a small change in a property's capitalization rate, based on any combination of factors, significantly impacts the property's overall full cash value. [26]