Specification, Estimation and Valuation

AR8703

4TH YEAR – Semester VII

By Ar. Thanuj TH
Unit- IV

VALUATION
Definition
Valuation is the technique of determination of fair price of a property such as land,
building, factory or other structures. Valuation determines present value of the
property for sale or renting purpose.

• Valuation is the analytical process of determining the current worth of an asset or a company.

• Valuation is the technique of estimation or determining the fair price or value of property such
as building, a factory, other engineering structures of various types, land etc.

• By valuation the present value of a property is determined.

• The present value of property may be decided by its selling price, or income or rent it may fetch.
•
• The value of a property depends on its structure, life, maintenance, location, bank interest,
legal control etc.

• The value also depends on supply on demand and the purpose for which valuation is required
Difference between Cost, Price and Value

Cost means the original cost of construction minus the loss due to its age and change in taste or
fashion.

Price is the amount calculated adding the cost of the production, interest on investment and profit to
the producer or the owner.

Value is the worth or utility of a property. Value of a property depends largely on the demand and
supply.

For example the cost to draw a painting may be 1,000/‐ rupees, but by adding
profit for the painter the price may be fixed at 1,500/‐ rupees. Let us consider the painting is a
very famous painting whose demand is more (like Monalisa by Leonardo da Vinci) then the
value of the painting may be significantly high.
 PURPOSE OF VALUATION:
➢ Buying or Selling Property:
✓ When it is required to buy or sell a property, its valuation is required.
➢ Taxation:
✓ To assess the tax of a property, its valuation is required.
✓ Taxes may be municipal tax, wealth tax, Property tax etc, and all the taxes are fixed on the valuation of the
property.
➢ Rent Fixation:
✓ In order to determine the rent of a property, valuation is required. Rent is usually fixed on the certain percentage
of the amount of valuation which is 6% to 10% of valuation.
➢ Security of Loans or Mortgage:
✓ When loans are taken against the security of the property, its valuation is required.
➢ Compulsory Acquisition:
✓ Whenever a property is acquired by law; compensation is paid to the owner. To determine the amount of
compensation, valuation of the property is required.
➢ Valuation of a property is also required for Insurance, Betterment charges, speculations etc.
➢ Role of An Engineer:
✓ The roll of an Engineer in valuation is felt when an Engineering structure is to be
valued, if and when it is: -

To be acquired

To be divided

To be allotted to a claim holder.

 FACTORS CONSIDERATION FOR VALUATION:
➢ Locality: -
✓ In case a building is located in such an area, where there is easy access to market, schools and is located on road side.
✓ The Orientation of the building is according to Engineering rules.
✓ It will fetch more cost than a building which is in a neglected condition and is locate at unhealthy site.
➢ Structure:
✓ The structure of a building is also an important consideration while evaluating a building.
✓ Workmanship I attractive and the building is properly maintained, it will fetch more cost than the building in a neglected
form with poor quality of material used.
➢ According to specifications a building is divided in four classes:-
✓ First Class
✓ Second Class
✓ Third Class
✓ Fourth Class
➢ Value:
✓ Present day cost of a Engineering structure (Saleable value)
➢ Cost:
✓ Original cost of construction.
✓ It is used to find out the loss of value of property due to various reasons.
 IMPORTANT TERMS
➢ Municipal Taxes:
✓ Municipality needs money in order to undertake and maintain public utility services and the same is
collected by imposing taxes on the property.
✓ The main utility works are roads, drainages, water supply tec. and the construction and maintenance.
✓ The taxes are assessed on some percentage basis on the net income from the property and varies from 10
% to 25 % of the net income.
✓ Usually for small houses the taxes are less and for big houses the taxes are high.
➢ Capital Cost:
✓ Capital cost is the total cost of a construction including land or the original amount required to possess a
property.
✓ It is the original cost and does not change, while value of a property is the present costwhich may be
calculated by methods of valuation.
 IMPORTANT TERMS

➢ Capitalized Value:
✓ The capitalized value of a property is the amount of a money whose annual interest at the highest
prevailing rate of interest will be equal to the net income from the property.
✓ To determine the capitalized value of a property it is required to know the net income from the property
and the highest prevailing rate of interest.
Example: Calculate the capitalized value of a property fetching a net annual rent of 25000 and the highest rate of interest
prevalent being 8%.
Ans: Net annual rent = 25,000
Rate of interest = 8%
In order to get an annual interest equal to the net annual rent of Rs. 25,000
(8/100) * X = 25000
X = 25000 * (100/8) = 3, 12, 500.00
Capitalized value = Net annual income * Year’s purchase
 IMPORTANT TERMS
➢ Gross Income:
✓ Gross income is the total income and includes all receipts from various sources of outgoings and the
operational and collection charges are not deducted.
➢ Net Income or Net Return:
✓ This is the saving or the amounts left after deducting all outgoings, operational and collection expenses
from the gross income or total receipt.
➢ Outgoings:
✓ Outgoings or expenses which are required to be incurred to maintain the revenue of the building.
✓ The various types of outgoings are as follows:
• Taxes
• Repairs
 IMPORTANT TERMS
➢ Outgoings:
✓ Outgoings or expenses which are required to be incurred to maintain the revenue of the building.
✓ The various types of outgoings are as follows:
• Taxes
• Repairs
• Management and Collection charges
• Sinking Fund
• Loss of Rent
• Miscellaneous
Taxes:
These are annual taxes paid by the owner, such as wealth tax, property tax and municipal
taxes (varies from 10% to 25% of net income).
Repairs:
For this 1 ½ % of the total construction is set aside for annual repairs of the building. These repairs are
must to maintain the building. It is also calculated as 10% of the gross income.
 IMPORTANT TERMS
➢ Outgoings:
Management:
Upto 10% of the gross revenue is kept aside for this expense. This includes, chowkidar sweeper etc. this is
applicable only for big buildings or apartments
Miscellaneous:
This is again suitable for big buildings. Lighting of common place, expenditure of liftman etc. are to be
paid by the owner.
Loss of Rent:

This is also an outgoing in case a building in not fully occupied by the tenants. This has
to be deducted from gross income.
Insurance:
Premium given against fire or for theft policy.
Obsolescence:
The value of property decreases if its style and design are outdated i.e. rooms not properly set,
thick walls, poor ventilation etc. The reasons of this is fast changing techniques of construction, design,
ideas leading to more comfort etc.
 IMPORTANT TERMS
➢ Free Hold Property:
✓ Any property which is in complete possession o f the owner is known as free hold property.
✓ The owner can use the property in an way he likes. But he will have to follow constraints fixed by town planners or
Municipality before doing any construction.
➢ Lease Hold:
✓ If a property is given to some person on yearly payment basis by the free holder, then the property is called
“lease hold property‟ and the person who take s the property is called Lease-holder.
✓ In case of building, the lease is for 99 years to 9 years.
✓ Types of Lease
▪ Building Lease
▪ Occupation Lease
➢ Easement:
✓ An owner getting over the property of another person, the following facilties is known as easements.
✓ Facility of running water and sewer pipes through other’s land.
✓ Facility of air and light.
✓ Facility of drainage of rain water.
✓ Facility of access.
 IMPORTANT TERMS
➢ Scrap Value:
✓ If a building is to be dismantled after the period of its utility is over, some amount can be fetched from the sale
of old materials.
✓ The amount is known as Scrap Value of a building.
✓ If varies from 8% to 10% of the cost of construction according to the availability of the material.
✓ In case where Wood & Steel are available, the scrap value is more than as R.C.C structure, as in the latter
case, the material has less reuse value.
➢ Salvage Value:
✓ If property after being discarded at the end of the utility period is sold without being broken into pieces, the
amount thus realized by sale is known as its Salvage Value.
✓ For example, railway sleepers can be re-used as posts and even old iron rails taken out can be used as beams
in a roof or sheds of a building.
 IMPORTANT TERMS
➢ Annuity:
✓ The return of capital investment in the shape of annual instalments (monthly, quarterly, half yearly &
yearly) for a fixed number of years is known as annuity.
✓ It is the annual payments for the repayment of the capital amount invested by a party. These annual
payments are made at the beginning or end of a year, usually, for a specific number of years.

Annuity Certain:
If the amount of the annuity is paid for a definite number of years. The lesser the number of year higher the
annuity and vice versa.
Annuity Due:
If the amount of annuity is paid at the beginning of each period or year and payments are continued for
definite number of periods.
Deferred Annuity:
If the payment of the amount of annuity begins at a future date after a number of years.
Perpetual Annuity:
If the payment of the annuity continues for an indefinite period.

Though annuity means annual payment, the amount of annuity may be paid by 12 monthly instalments, quarterly or half‐
yearly instalments.
➢ Market Value:
✓ It is defined as the value which a property can fetch when sold out in open market.
✓ This value is variable, depending upon the will to buy or sell.
➢ Book Value:
✓ It is the amount of a property shown in the books, after allowing necessary depreciations year-wise.
✓ The book value is independent of market-value.
Market Value Book Value
Value is fixed by the purchaser Value is fixed by the depreciation

Value is higher during the subsequent years due to increase Book value cannot be higher during subsequent years even
in price index due to the increase of price index.

Value may be constant for a period Value cannot be constant, rather there is a gradual fall

Applicable to any type of property This cannot be applicable in case of land or metal articles
like steel copper or gold etc.

Market value is considered for the valuation Book value is considered for the accounts book of a
company

Depends on the forces of demand and supply Book value does not vary due to demand and supply
 IMPORTANT TERMS
➢ Sinking Fund:

• The fund which is gradually accumulated by way of periodic on annual deposit for the replacement of
the building or structure at the end of its useful life is termed as sinking fund.

• The calculation of sinking fund depends on the life of the building and scrap value of the building for the
cost of old materials.

• The cost of land is not taken into account in calculating sinking fund as land remains intact.

• This is also taken as outgoings.

 IMPORTANT TERMS
➢ Sinking Fund:

A fund which is gradually accumulated and aside to reconstruct the property after the expiry of the period of
utility is known as sinking Fund.

• The sinking funds may be found out by taking a sinking fund policy with any insurance company or
depositing some amount in the bank.

• Generally, while calculating the sinking fund, life of the building is considered. 90% of cost of
construction is used for calculations & 10% is left out as scrap value.

I= Si

(1+ i)n - 1

Where,
S = total amount of Sinking fund to be accumulated
n = number of years required to be accumulated the Sinking fund
i = rate of interest in decimal
I = annual instalment required.
 IMPORTANT TERMS
➢ Sinking Fund:
PROBLEMS ON DETERMINATION OF SINKING FUND:
1. A pumping set with a mortar has been installed in a building at a cost of Rs.2,500.00. Assuming the life of the pump
as 15 years, work out the amount of annual instalment of Sinking fund required to be deposited to accumulate the
whole amount of 4 % compound interest.

Solution: = 2500 X 0.04

I= Si

(1+ i)n - 1 (1 + 0.04)15 – 1

= Rs.125
Depreciation

• Depreciation is the gradual exhaustion of the usefulness of a property. This may be defined as the decrease or loss
in the value of a property due to structural deterioration use, wear and tear, decay and obsolescence.
• The value of a building or structure will be gradually reduced due to its use, life, wear and tear, etc., and a certain
percentage of the total cost may be allowed as depreciation to determine its present value.
• Usually a percentage on depreciation per annum is allowed.
• The general annual decrease in the value of a property is known as Annual Depreciation
• Usually, the percentage rate of depreciation is less at the beginning and gradually increases during later years.
• The amount of depreciation being known, the present value of a property can be calculated after deducting the total
amount of depreciation from the original cost.

Calculation of Depreciation
The Various methods of calculating depreciation are as follows:-
1. Straight line method
2. Constant percentage method
3. Sinking fund method
4. Quantity survey method
Straight line method
It is assumed that the property loses its value by the same amount every year. A fixed amount is deducted every year,
sot that at the end of the utility period, only the scrap value remains. Therefore, the annual depreciation “D” is estimated as:
Annual Depreciation, D = C–S
n
Where,
C – Original capital cost
n – life of the property in years.
S – Scrap Value or Salvage value
And the book value after “n‟ years = Original cost – n x D

Constant percentage method (declining balance method)

It is assumed that the property will lose its value by a constant percentage of its value at the beginning of every year.
Annual Depreciation, D = 1 – ( S/C ) 1/n
Where,
C – Original capital cost
n – life of the property in years.
S – Scrap Value or Salvage value
Sinking fund method

It is assumed that the depreciation is equal to the annual sinking fund plus the interest on the fund for the year,
which is supposed to be invested on interest bearing investment.
If A is the annual sinking fund C – Original capital cost and b, c, d etc. represent interest on the sinking fund for subsequent
years, then the depreciation at the end of various years can be calculated as:

Year Depreciation for Total depreciation Book value

the year

1st year A A C‐A

2nd year A+b 2A+b C‐(2A+b)

3rd year A+c 3A+b+c C‐(3A+b+c)

Quantity survey method
The property is studied in detail and loss in value due to life, wear, and tear, decay obsolescence, etc,., worked out.
Each step is based on some logical reasoning without any fixed percentage of the cost of the property. Only an experienced
valuator can work out the amount of depreciation and the present value of the property using this method.

Determination of Depreciation of a building

After deciding the cost using the previous measures, it is necessary to allow a suitable depreciation on the cost. The following
table provides a reasonable depreciation of a building whose life if 80 years and well maintained.

Age of the building Depreciation per year Total depreciation

0‐5 years Nil Nil

5‐10 years @0.50% 2.50%

10‐20 years @0.75% 7.50%

20‐40 years @1.00% 20%

40‐80 years @1.50% 60%

Total depreciation after 80 years 90%

 Methods of Valuation of Building.
The valuation of a building is determined by working out its cost of construction at the present day rate and allowing
a suitable depreciation.
Following data are required for valuation of a building
Cost of incurred if the building to be constructed in present day
Age of the building should be determined
Visual inspection of its present condition
Future life span should be determined

Present day cost

Present day cost may be estimated from the following methods
Cost from the records:
From the records, Estimates and Bill of Quantities .If the actual cost of construction is known, this may increase or
decrease according to the percentage rise or fall in the rate obtained from the PWD Schedule of Rates.

Cost by detailed measurement

Cost of construction may be calculated by preparing the BOQs of various items of works by detailed measurement
at site and taking the rate of each item of work as per the current PWD SOR. All the items of work shall be thoroughly
scrutinized and their detailed specification ascertained as per original.
Cost by plinth area
The plinth area of the building is measured and the present day plinth area rate of similar buildings in the locality is studied,
and the cost calculated. It is necessary to examine thoroughly the different parts of the building including the foundation,
structure, doors & windows, finishes etc.
Determination of depreciation.
After deciding the cost of the building or structure by any the above method it is necessary to
allow a suitable depreciation on the cost The depreciation depends on the ultimate use of the building, the present age
of the building, nature of maintenance. etc. Generally, for the first 5 to 10 years there is little depreciation of the
building or structure.
The depreciation increases with the life. For a building whose life is considered as 80 years, if well
maintained the following may-be Reasonable depreciation :-—
Depreciation per year Total depreciation
0 to 5 Years = nil
5 to 10 Years @1/2 per cent = 2.5 %
10 to 15 Years @3/4 per cent = 7.5%
20 to 40 Years @1 percent = 20.0 %
40 to 80 Years 1 ½ percent = 60.0 %
Total --- 90 %
The balance 10% represents the net scrap value on dismantling at the end of the utility period
Method of valuation. —
The following are the different methods of valuation
•Rental method of valuation.
•Direct comparisons of the capital value.
•Valuation based on the Profit
•Valuation based on the cost.
•Development method of valuation.
•Depreciation method of valuation.
1 - Rental method of valuation.
In this method, the net income by way of rent is found out by deducting all outgoings from the gross rent. A suitable rate of
interest as prevailing in the market is assumed and year's purchase is calculated. This net income multiplied by the
capitalized value or valuation of the property. This method is applicable only when rent is known or probable rent is
determined by enquiries.
2 - Direct comparison with the capital value:
This method may be adopted when the rental value is not available from the property concerned, but there are evidences
of sale price of properties as a whole. in such cases the capitalized value of the property is fixed by direct comparision with
capitalized value of similar property in the locality.
3 - Valuation based on profit:
This method of valuation is suitable for buildings like hotels, cinemas, theaters etc. for which the capitalized value depends
on the profit, In such cases the net annual income is worked out after deducting from the gross income all possible working
outgoings, interest on the capital invested, etc. The net profit is multiplied by Y.P to get the capitalized value. In such cases
the valuation may work out to be too high in comparison with the cost of construction.
4 - Valuation based on cost
In this method the actual cost incurred in constructing the building or in possessing the property is
taken as basis to determine the value of property. In Such cases necessary depreciation should be allowed and the points
of obsolescence should also be considered.
5 - Development method of valuation
This method of valuation is used for the Properties which are in the undeveloped stage or part developed and partly
undeveloped stage.
If a large place of land is required to be divided into plots after providing for roads, parks, etc., this method of
valuation is to be adopted, In such cases, the probable selling price of the divided plots, the area required for roads,
parks, etc., and other expenditures for development should be known.
If a building is required to be renovated by making additions, alterations or improvements, the development method
of valuation may be used. The valuation of the property may be worked out from the anticipated future net income which
it may fetch after its renovation. The net income multiplied by the Y. P. will give the anticipated capitalized value. The
total expenditure required to be incurred in renovation should be worked out, and the original cost of the property
together with the new expenditure should be compared with anticipated value and decided if the investment in renovation
is justified.
6 - Depreciation method of valuation.
According to this method of valuation the building should be divided into four parts viz- (i) Walls, (ii) Roofs, (iii) Floor and
(iv) Doors and windows; and the cost of each parts should first be worked out on the present-day rates by detailed
measurements.
The life of each of the four parts should then be ascertained with the help of table below (From 1, Annexure (B) to Chapter
Xlll of the Financial Hand Book Volume V ( Part I) ) and the depreciated value of each part is ascertained by the formula
D = P (100-rd )^n, where
100
D is the depreciated value,
P is the Cost at present market rate and
rd the fixed percentage of depreciation (rate of depreciation, r stands for rate and d for depreciation) and
n the number of years the building had been constructed.
The value of rd may be taken as below
Structures with 100 years life, rd = 1.0,
Structures with 75 years life, rd = 1.3,
Structures with 50 years lifes rd = 2.0,
Structures with 25 years life. rd = 4.0,
Structures with 20 years life, rd = 5.0
The values arrived at will be exclusive of cost of land, water supply, electric and sanitary fittings, etc., and will apply to
those buildings only which have been properly maintained.
If the repairs had been neglected in the past and the present condition is bad or dilapidated, suitable deduction should be
made from the values as deducted above, for neglected repairs,
The present value of land and water supply, electric and sanitary fittings, etc., should be added to the valuation of the
building to arrive at total valuation of the property.