The Difference Between Property Value and Depreciation

Buyers can locate a property and purchase real estate without the services of an agent. However, many contract the services of a real estate agent in part for their market knowledge and industry expertise. Real estate agents can provide their valued clients with the best service possible by educating themselves about all aspects of the sales process and even the property ownership process. Buyers who are looking for a personal residence as well as investor clients who are looking for a long-term real estate investment are generally concerned with the value of the property. This concept, however, is often confused with how a property depreciates and what this means in the real estate world. By gaining a better understanding of these two common terms and how they impact different buyers, you can position yourself to better serve your clients.

Understanding Property Value

Home ValueYou and your clients may be well aware that the value of real estate does not generally remain stagnant. It can increase and decrease frequently based on a wide range of market conditions. Property value is most commonly determined by a real estate agent or an appraiser in part by reviewing local market comparable data. You likely are already familiar with this process of finding properties of similar size and condition in the neighborhood where a potential listing is located and making reasonable adjustments based on condition, special features, layout and more. The value of a property is important during the sales process to determine a fair offer to make to the seller, and it also is important to a buyer during his or her years of home ownership. For example, it will be used to determine the property taxes owed on the property each year, and it also will be used to calculate the equity in the home.

Exploring the Meaning of Property Depreciation

This is a term that has two distinctive meanings in real estate. Its most common meaning relates to a decline in the value of a property. When the market rates adjust downward, the real estate value declines. The other term is less commonly known, and it may be a factor that investors are more concerned with. The Internal Revenue Service allows investors to use property depreciation as a tax deduction. This is one of the least well-known real estate investment benefits, but it can be a true financial advantage. It gives investors the opportunity to offset their tax liability and to maximize gains. The value of the property is capitalized over the expected life span of the property. The IRS sets the expected life of assets for you. In addition, significant property improvements can also be depreciated for additional financial benefit.

What These Terms Mean to a Personal Residence Buyer

When talking to your clients about these two factors, it is important to remember who your client is and what his or her primary interests may be. The value of the property is most significant factor that will affect a personal residence buyer. This type of client wants to ensure that they get a fair price on the property. When talking about the property, you may discuss property value appreciation rates in the local area. Ensure that they understand there are no guarantees that values will continue to appreciate at a specific rate. However, this information can be beneficial to them as they decide which property to proceed with.

Why They Are Important to Investor Clients

Both of these factors are important to investor clients for different reasons. Investors typically want to ensure that the property cash flows on a monthly basis. The sales price they negotiate on the property will dictate their loan amount and monthly loan payment. In this way, the sales price plays a major role on the overall monthly cash flow that the property can generate for them. Many investors want to project a specific minimum return on investment. This includes tax benefits as well as the appreciation rate of their property and their ability to build equity. The tax benefits are directly impacted by depreciation. Because this factor is based on the value of the property, the two factors are intertwined. In addition, a higher value generally increases the amount that can be depreciated each year, or in other words, it offsets the owner’s tax liability on the property. You can help your investor clients to better determine their overall return on investment by focusing their attention in part on these key factors.
Understanding the different real estate terms that your clients may have questions about is critical. They are contracting you for your real estate services as well as your expertise in this area. It is important that you know what these terms mean and that you have a practical working knowledge of how they affect buyers’ decisions and financial goals.