In order to determine market value a property must be appraised in terms of it’s highest and best use.
Highest and Best use: The reasonable probable and legal use of vacant land or an improved property, which is physically possible, appropriately supported, financially feasible, and that results in the highest value.
When a site contains improvements, the highest and best use may be determined to be different from the existing use. The determination of highest and best use takes into account the contribution of a specific use to the community and community development goals, as well as the benefits of that use to individual property owners. In appraisal practice, the concept of highest and best use represents the premise upon which value is based.
Any determination of highest and best use includes identifying the motivations of probable purchasers. The motivations are based on perceptions of benefits that accrue to property ownership. Different motivations influence the highest and best use and are significant to an appraiser’s conclusions about the highest and best uses of any parcel of real estate.
The benefits of investment properties that are not owner occupied relate to net income potential and to eventual resale or refinancing. The highest and best use decision for investment property is often influenced by the income tax and inflation hedge aspects of the existing or proposed improvements.
Determination of the type and intensity of the improvement to be placed on the investor’s land often requires an after-tax return analysis of various alternatives. Land or improved property that has resale profit as it’s principal potential benefit is purely speculative. The price such land commands in the market reflects the real motivation of the purchaser/speculator.
A use must meet four criteria as follows:
- Physically Possible
- Legally Permissible
- Financially Feasible
- Maximally Productive.
Once the highest and best use has been determined, the appraiser can then apply the appropriate approaches to value.