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The income approach is one of the three main methods that appraisers use to value property.

The income approach is typically used on income-producing properties, such as apartments. It assesses value based on the income the property will generate. It’s calculated by dividing a property’s net operating income, which is all revenue it generates minus all necessary operating expenses, by its capitalization rate.

For example, an apartment building’s net operating income is $130,000 in revenues minus expenses for costs, such as utilities, that amount to $30,000. The NOI is $100,000. Its cap rate is the operating income divided by the property’s current value, which is $750,000. Its cap rate is 13.3%. Using the income approach, its value is roughly $750,188. The property’s value using the income approach is a little more than its current value.

The income approach looks at rents and values of real estate in an area, but it may not account for a property’s unique features or conditions. It also may ignore the quality of the neighborhood and certain financing concessions. Real estate investors should use the income approach only as a quick snapshot of a property’s value.

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