November 1, 2022
External Obsolescence Explained
An examination of external oblivion
External obsolescence is not a topic that is frequently discussed. You might wish to learn more about this type of under-discussed depreciation if you’re interested in buying real estate and selecting a building that holds its worth.
Starting with the word “external,” you can decipher the sentence as “coming from or originating from a source outside the subject impacted.” The definition of obsolescence is “the process of becoming obsolete or outmoded and no longer usable,” so let’s look at that.
Real estate loses value as it becomes out of date. Therefore, external obsolescence refers to a value decline brought on by outside factors.
Economic obsolescence is a word that is frequently used interchangeably with External obsolescence. Both have the same meaning and are depreciation methods, as mentioned.
Unlike other types of depreciation, this one is more difficult to remedy. Physical depreciation allows you to upgrade a home and lower its effective age, giving the impression that it is newer than it actually is.
Since the depreciation originates from outside the building, the owner might not be able to stop it. Moving the home might be the only option, but it has occasionally happened.
When purchasing real estate, it’s crucial to keep this in mind because this kind of depreciation can be challenging to reverse. A property that is exposed to external obsolescence may not increase in value as quickly as a comparable property that is not affected by the same external influences.
External Obsolescence Types
You might be wondering at this point what kinds of external obsolescence exist. Examples include houses next to airports, busy highways, buildings near industries that smell bad, such paper mills or food processing plants, or even houses that have recently undergone zoning changes.
Appraisers are expected to identify these characteristics and describe how they affect the value of the property being appraised since they have an impact on value. This is accomplished by gathering and reviewing sales information from comparable adjacent properties that have experienced the same external circumstances as the topic.
This can be accomplished in a number of methods, such as matched pairs analysis, comparing the rental revenue of damaged and unaffected homes, and/or examining differences in land value in the cost approach.
Using recent and comparable sales of properties that are susceptible to the same outside factors is the best way to estimate the value of the subject property when using the sales comparison approach. The sale price will have the exterior obsolescence “baked in,” which means that the buyer would have taken the property’s location into account when submitting an offer.
If there are few sales in the affected area, outside sales can be utilised, and location modifications can be made to account for the change in location. In order to compare percentage discrepancies between the two locations, older sales can also be examined. This adjustment can then be applied to more current sales.
The income technique can also be used if the property is located in a neighborhood where rents are frequent. You can compare and use the differences in rental rates between homes that are subject to external obsolescence and those that aren’t to determine the subject property’s value.
Last but not least, the cost approach can be utilized to support the other two value approaches. Recent sales can be utilized to calculate the land value using depreciated cost analysis, and this value can then be compared to the land value of properties that are not affected by location to identify any disparities that might exist.
Even while these types of depreciation adjustments are frequently made, they are not necessarily the norm. It is a common misconception among appraisers that a property’s location has a detrimental impact on its value.
It is ideal to use sales from the same area and location because no location adjustment for external obsolescence is required. If it can be supported, using sales from outside the neighborhood necessitates a location adjustment.
Conclusion
As I’ve already mentioned, External Obsolescence is often difficult to treat. As a result, it might have a significant negative influence on the property’s market value.