The value of a commercial property is typically calculated using one of three main approaches: Income Approach, Sales Comparison Approach, or Cost Approach. The Income Approach is most common for income-producing properties. Here’s the basic formula:
1. Income Approach (Capitalization Method)
This approach is based on the property’s ability to generate income.
Formula:
Commercial Property Value Formula
Income Approach (Capitalization Method)
Where:
NOI = Gross Rental Income − Operating Expenses
Cap Rate = Rate of return expected by an investor
Where:
- NOI (Net Operating Income) = Gross Rental Income − Operating Expenses
- Cap Rate = Rate of return expected by an investor (expressed as a decimal, e.g., 8% = 0.08)
Commercial Property Value Example
Using the Income Approach (Capitalization Method)
Example Calculation:
2. Sales Comparison Approach
This approach compares the property to similar recently sold properties.
Commercial Property Value Formula
Sales Comparison Approach (Simplified)
Where:
Price of Comparable Property = Sale price of similar recently sold property
Adjustments for Differences = Changes for differences in size, location, condition, etc.
3. Cost Approach
This is based on the cost to rebuild the property minus depreciation plus land value.
Commercial Property Value Formula
Cost Approach
Where:
Replacement Cost = Cost to rebuild the property
Depreciation = Loss in value due to wear & tear or age
Land Value = Value of the land
Replacement Cost = $900,000
Depreciation = $100,000
Land Value = $200,000
Property Value = 900,000 − 100,000 + 200,000 = $1,000,000
✅ Most commonly used for commercial properties: Income Approach, especially for office buildings, retail spaces, and apartment complexes.
Here’s a clear table comparing the three main commercial property valuation methods:
| Method | Formula | Explanation | Example |
|---|---|---|---|
| Income Approach (Cap Rate) | Property Value = NOI ÷ Cap Rate | Based on income the property generates. NOI = Net Operating Income (Gross Income − Expenses). Cap Rate = market rate of return. | NOI = $100,000, Cap Rate = 8% → Value = 100,000 ÷ 0.08 = $1,250,000 |
| Sales Comparison Approach | Property Value = Comparable Sale Price ± Adjustments | Compares the property to similar recently sold properties, adjusting for differences (size, location, condition). | Comparable sold for $1,000,000, adjustment for larger lot = +$50,000 → Value = $1,050,000 |
| Cost Approach | Property Value = Replacement Cost − Depreciation + Land Value | Based on the cost to rebuild the property minus depreciation, plus the land’s value. | Replacement Cost = $900,000, Depreciation = $100,000, Land = $200,000 → Value = $1,000,000 |
✅ Key takeaway: For income-producing commercial properties, the Income Approach is usually preferred, while Sales Comparison works well for smaller commercial or mixed-use buildings, and Cost Approach is often used for special-purpose properties.
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