What is 'Functional Obsolescence'

Functional obsolescence, a term commonly used in real estate, is a reduction of an object's usefulness or desirability because of an outdated design feature that cannot be easily changed. The application of the term varies per industry.  For example, in real estate, it refers to the loss of property value due to an obsolete design feature, such as an old house with 1 bathroom in a neighborhood filled with new homes featuring at least 3 bathrooms.

BREAKING DOWN 'Functional Obsolescence'

Consumers can mitigate losses caused by functional obsolescence by considering the long-term usefulness of purchased goods. An item can be unattractive to consumers if its design prevents upgrades or connectivity with compatible devices. Many consumer electronics, such as smartphones, are known for their functional obsolescence due to the constant introduction of newer, refreshed versions.

Functional obsolescence is not exclusive to consumer electronics and real estate.  For example, before the late 1990s, most households were filled with bulky, heavy tube televisions.  As a result, entertainment centers were constructed to accommodate their weight and size.  Today, most households are filled with sleek, lightweight flat-screen televisions, rendering the old entertainment centers functionally obsolete.  To keep pace with the technological advances of consumer electronics, furniture manufacturers often redesign their products.

Companies also take into consideration functional obsolescence in long-term business planning. Depreciation of an asset is one example of quantifiable functional obsolescence. Companies can use various accounting methods to calculate the depreciation of an asset on its books, but the overall goal is to measure and track an asset's declining usefulness over time. This method of business planning also helps companies anticipate the need to sell or repurchase new assets.

Functional Obsolescence and Real Estate

In real estate, functional obsolescence usually leads to a lower appraisal value. Real estate can exhibit functional obsolescence if its design features are outdated, not useful, or not aligned with market tastes and standards, such as when an old house is located within a neighborhood of new homes.  Consider a 1950s house with 3 bedrooms and 1 bathroom located in a gated subdivision filled with 2-story 5 bedroom, 4 bathroom houses.  Because the old house does not have the capacity that buyers in this market want, it is said to be functionally obsolete even if it is still in good condition and is perfectly livable. In the case of real estate, some features can potentially be renovated to overcome functional obsolescence.

  1. Obsolescence Risk

    Obsolescence risk is the risk that a process or product used ...
  2. Planned Obsolescence

    Planned obsolescence is a purposeful strategy to ensure the current ...
  3. Functional Currency

    Popular with multinationals, functional currency represents the ...
  4. Appraisal Method Of Depreciation

    The appraisal method of depreciation is a calculation of the ...
  5. Obsolete Inventory

    Obsolete inventory is a term that refers to inventory that is ...
  6. Real Estate Investment Group

    A real estate investment group is an organization that builds ...
Related Articles
  1. Investing

    The Biggest Real Estate Mistakes To Avoid This Year

    The real estate market has changed dramatically in the last few years - don't get caught in the cold.
  2. Investing

    Key Reasons To Invest In Real Estate

    Investor sentiment has soured on the real estate sector has since the 2008 economic crisis, but it may be time to reconsider investing in real estate.
  3. Investing

    The Advantages of Real Estate Versus Stocks

    Real estate investments shouldn't be overlooked as a way to diversify a portfolio and help mitigate risk.
  4. Investing

    Strategic Bathroom Enhancements With Huge Returns

    Even modest investments to improve a small bathroom can yield considerable rewards.
  5. Investing

    A Guide to Real Estate Investing

    Investing in real estate is a popular choice for good reasons, but it's more complicated than owning your typical stocks and bonds.
  6. Personal Finance

    Microsoft Excel Features For The Financially Literate

    Here are some of Excel's functions and features that a financial professional can use to make his or her job more efficient.
  7. Investing

    Performance Review: Real Estate in 2015

    Find out why there are signs of another housing bubble after a great year for real estate investors in 2015, and see some forecasts for real estate in 2016.
  1. What is the utility function and how is it calculated?

    Economists measure utility in revealed preferences by observing consumer choices and ordering consumption baskets from least ... Read Answer >>
  2. How can I calculate the hurdle rate in Excel?

    Learn how to evaluate potential investments. Common desktop software provides functions that can help make the decision with ... Read Answer >>
  3. How do real estate hedge funds work?

    Understand what a hedge fund is, how it differs from a mutual fund, and the function of real estate hedge funds. Read Answer >>
Trading Center