773 388 0003

Tag: Highest and Best Use

  1. Homepage
  2. Highest and Best Use
Request a quote

Our blog

Latest news
& events

Former church building on a residential block, a common subject of a special use property appraisal
41 Views
Commercial Appraisals
When There Are No Comps for a Mixed-Use or Special Use Building

What do you tell a client who asks what a former church is worth? Or a bowling alley, or a storefront with four apartments upstairs? A special use property appraisal starts where the usual shortcuts stop. There may be no recent sales of anything like it, and no rental market to borrow from. So the report has to show more of its reasoning, and counsel should know where to look.

By the end of this article, you’ll know:

  • What makes a property special use or mixed-use, and why comparable sales fall short.
  • How highest and best use and the cost approach carry the analysis.
  • Which value, interest, and use questions to settle before the engagement letter goes out.

Why a Special Use Property Appraisal Takes More Work

A special use property is a building designed around one purpose. Its layout, structure, or equipment fits that use and little else. Think of a house of worship, a school, a theater, a car wash, a gas station, or a bowling alley. Appraisal texts usually call it special purpose property, but the idea is the same.

The trouble starts with the market. Few buyers want a building they would have to gut, so these properties sell rarely. When one does sell, the price often reflects a conversion or a teardown. Because of that, the sale may say little about what the building is worth in its current use.

So the appraiser widens the search. Sales from other counties or other states may come in, along with older ones. Each needs more adjustment and more explanation. The income approach has limits too, because many of these buildings have no rental market to speak of. Our guide to the three approaches to value explains how each one works on ordinary commercial property.

Highest and Best Use Comes Before Any Number

Every appraisal rests on a use. Highest and best use is the use that passes four tests. It has to be legally permissible, physically possible, financially feasible, and maximally productive. On a special use building, that analysis can decide the whole assignment.

Take a closed church on a residential block. It may be worth the most to another congregation. Or a developer may pay more to convert it to housing, if zoning allows. Sometimes the land is worth more with the building gone. Those are three different values for the same parcel.

The first test is where your work and ours meet. Zoning, a special use permit, legal nonconforming status, deed restrictions, and easements all shape what a buyer can do. The appraiser reports what the analysis relied on. But if the legal status is in doubt, that call belongs to counsel, not to us. In that case the report should state the assumption plainly, so any reader knows what the value depends on.

Federal bank guidance takes the same view. Under the Interagency Appraisal and Evaluation Guidelines, market value should reflect the property’s actual physical condition, use, and zoning as of the effective date. If the highest and best use is redevelopment, demolition and site preparation costs also belong in the analysis.

Where the Cost Approach Earns Its Place

When sales and rents are thin, the cost approach often carries the most weight. It adds land value to the cost of building the improvements new, then subtracts depreciation. On a special use building, depreciation is the hard part.

Physical wear is easy enough to see, but functional obsolescence takes more judgment. A 600-seat sanctuary or a 40-lane bowling center may cost far more to build than the market would pay for it today. That gap has to come off the cost, and the report should say how the appraiser measured it.

Consider a hypothetical single-purpose building. Say the land is worth $600,000 and the improvements would cost $3,200,000 to replace. Physical depreciation of 35 percent takes off $1,120,000. Functional obsolescence then takes off another $480,000. So the improvements contribute $1,600,000, and the cost approach indicates $2,200,000.

In a dispute, that $480,000 line is the one the other side will test. The same goes for the land value, which still comes from sales. The interagency guidelines also expect the appraiser to explain any approach left out. If the report skips sales comparison, it should say why.

Mixed-Use Property Is Several Buildings in One

Mixed-use property has the opposite problem. There is plenty of market evidence, but it belongs to different markets. A building with retail at grade and apartments above answers to retail rents and apartment rents at once. Each part has its own vacancy pattern, expense load, and lease structure.

So the income approach gets built one component at a time. The appraiser estimates net operating income for the retail and for the apartments, then asks who buys the building as a whole. The cap rate should come from sales of buildings with a similar mix. If it can’t, the report should explain how the appraiser blended the rate.

Leases need a close read as well. The interagency guidelines note that a long lease below market rent can make the leased fee worth less than the fee simple. For that reason, the report must state which interest it values.

In Cook County, the mix also drives the tax line. Under the Assessor’s class definitions, revised in December 2024, a mixed-use building with six or fewer units and under 20,000 square feet is Class 2-12. That class sits at a 10 percent level of assessment, while commercial classes sit at 25 percent. Larger buildings can end up split between the two. The Assessor makes that call, but the appraisal still has to model the taxes a buyer would expect.

The Real Estate Is Not the Business

Some special use properties sell as operating businesses. A car wash or a hotel changes hands with its equipment and its customer base. That total is going concern value, and it is not the value of the real estate.

The distinction matters for lending. The same federal guidelines say going concern value, value in use, and value to a specific user may not stand in for market value in a federally related transaction. An appraisal can report them, but only as separate opinions with clear labels.

SBA lending went a step further. In a 2015 notice, SBA said going concern appraisals of special purpose property must allocate separate values to land, building, equipment, and intangible assets. SBA has revised its procedures since then, so confirm the current rule with the lender.

Still, the allocation question comes up in purchase agreements, collateral descriptions, and ownership disputes too. How those pieces get characterized legally is your call. Our job is to support each number.

What Owners and Investors Should Hand the Appraiser

If you own or are buying one of these buildings, the file you hand over shapes the report. So pull these together first.

  • Every commercial lease, plus a rent roll that separates commercial space from apartments.
  • Three years of income and expenses, with shared costs such as taxes and insurance split by component where you can.
  • The certificate of occupancy and any special use permit, variance, or zoning letter.
  • For a single-purpose building, the construction costs or recent contractor bids.
  • A list showing which equipment stays with the building and which belongs to the business.

If your own company occupies the building, put a written lease in place at a rent you can support. Then the appraiser has something to analyze besides your word. Also, before you buy a special use building, price the exit. Ask a contractor what conversion would cost, because the next buyer will ask the same thing.

Settle Four Questions Before the Engagement Letter Goes Out

Most trouble with these appraisals starts before anyone hires the appraiser. So settle four points up front and put them in the engagement letter.

  • Start with the value, whether market value of the real estate, value in use, or going concern.
  • Then name the interest, fee simple or leased fee.
  • Next comes the use, as the property stands today or under a stated zoning or conversion assumption.
  • Finally, fix the date, either today or a past date the matter turns on.

A special use property appraisal that answers those four on page one is far easier to defend. It is also easier to compare when the other side produces its own report.

Drafting Around a Hard-to-Value Building?

PahRoo lays out the highest and best use, the approaches, and any allocation step by step, so counsel can follow how the value was reached.

Discuss Your Commercial Assignment

Frequently Asked Questions

What counts as special use property?

A property built for one purpose, with a design or layout that suits that use and little else. Common examples are houses of worship, schools, theaters, car washes, gas stations, and bowling alleys. Appraisers often call it special purpose property. Because few buyers want such a building as it stands, sales are scarce.

How do you appraise a church or school?

Usually with the cost approach in the lead. The appraiser values the land from sales, estimates the cost to build the improvements new, then subtracts physical wear and functional obsolescence. Sales of similar buildings, often from a wider area, serve as a check. Highest and best use analysis comes first, since conversion or redevelopment may be worth more than continued use.

How is mixed-use property valued?

Mostly through the income approach, built one component at a time. Retail, office, and apartment space each get their own market rent, vacancy, and expense analysis. The appraiser then applies a cap rate supported by sales of buildings with a similar mix, and checks the result against those sales directly.

What is a going concern in appraisal?

It is the value of an operating business together with its real estate, equipment, and intangible assets. Federal bank guidance says going concern value may not be used as market value for a federally related transaction, though an appraisal may report it as a separate, clearly identified opinion.

Why are special use properties hard to value?

They rarely sell, and many have no rental market, so two of the three approaches have little data. The cost approach fills the gap, but it depends on a judgment about how much value the specialized design has lost. That judgment needs clear support in the report.

Appraisals for Buildings That Don’t Fit a Template

Odd buildings are regular work at PahRoo Appraisal & Consultancy. Our MAI and SRA designated team serves Chicago and Cook County, Dallas-Fort Worth, Philadelphia, Phoenix, and Naples. See our commercial appraisal services for the property types we cover, mixed-use and special purpose assignments included. Or start with our Chicago appraisal services page for local scope questions.


Read Now
Mid-rise commercial building evaluated using the three approaches to value
148 Views
Commercial Appraisals
Three Approaches to Value in a Commercial Appraisal

A commercial appraisal report can run sixty pages or more. Somewhere inside it sit the three approaches to value. Lenders often skim past them. Borrowers rarely read them at all. But those three sections carry the whole argument behind the number on the cover page.

By the end of this article, you’ll know:

  • What the sales comparison, cost, and income approaches each measure
  • Why an appraiser might omit one, and what that omission tells you
  • How reconciliation turns three indications into one opinion of value

What the Three Approaches to Value Actually Are

Appraisal practice rests on three ways of looking at the same building. The sales comparison approach asks what similar properties sold for. The cost approach asks what it would cost to build the property today, less depreciation, plus the land. The income approach asks what the property earns, and what an investor would pay for that income.

None of the three is decorative. Federal banking regulators expect each one to be considered. The Interagency Appraisal and Evaluation Guidelines state that an appraisal must include any approach that is applicable and necessary to the assignment, and that the appraiser should disclose the rationale for omitting one. So a missing approach is not a shortcut. It is a judgment the appraiser has to defend in writing.

The Sales Comparison Approach: What Similar Buildings Sold For

This one feels familiar because it is how residential work is usually done. The appraiser finds recent sales of comparable properties, then adjusts them for differences in location, size, age, condition, and terms of sale.

Commercial work makes that harder. There may be four warehouse sales in a submarket over two years, not forty. So the appraiser widens the search area, reaches further back in time, and adjusts more heavily. The unit of comparison changes by property type too. Industrial and office usually trade on price per square foot. Apartments often trade on price per unit. Self-storage trades on price per door.

When good sales exist, this approach carries real weight because it reflects what buyers actually paid. When they do not exist, the appraiser says so and leans elsewhere. Our commercial appraisal services cover office, retail, industrial, mixed-use, and special-purpose assignments, and the comparable pool looks different in every one.

The Cost Approach: What It Would Take to Build It Again

The cost approach starts with land value, adds the cost to construct the improvements new, then subtracts depreciation. Depreciation comes in three forms: physical wear, functional problems such as a bad floor plan or low ceiling height, and external factors such as a declining submarket.

This approach does its best work on new or nearly new buildings, where depreciation is small and easy to support. It also earns its keep on special-purpose property. A fire station, a church, a school, or a wastewater plant may have almost no comparable sales and no rental market. Cost may be the only credible path to value.

On a forty-year-old office building, the picture is different. Estimating depreciation across four decades involves a great deal of judgment, so the cost approach usually supports the conclusion rather than driving it.

The Income Approach: What the Property Earns

For income-producing property, this is normally the main event. Buyers of an apartment building or a leased industrial box are buying a cash flow. The appraisal should reflect that.

There are two common methods. Direct capitalization divides one year of stabilized net operating income by a market-derived capitalization rate. Discounted cash flow projects income over a holding period, then discounts it back to present value. Direct capitalization suits stable, leased property. Discounted cash flow suits property with lease rollover, a lease-up period, or step rents that change the income pattern over time.

Either way, the analysis is only as good as the inputs. The rent roll, the operating expenses, the vacancy assumption, and the rate all have to be supported by market evidence rather than by the owner’s optimism.

Reconciliation Is a Judgment, Not an Average

At the end of a commercial appraisal, three approaches may produce three different numbers. The appraiser does not average them. Averaging would treat weak data and strong data as equals.

Instead the appraiser reconciles. That means weighing the quantity and quality of evidence behind each indication, then explaining which approach carries the most weight and why. On a stabilized multi-tenant building, the income approach usually leads. On a newly built special-use facility, the cost approach may lead. On owner-occupied space in an active market, sales comparison may lead.

If you read only one part of a commercial appraisal, read the reconciliation. It tells you what the appraiser trusted, what the appraiser discounted, and how much support sits behind the final number. A reconciliation that simply asserts a conclusion without explaining the weighting is a fair thing to question.

Need a Commercial Appraisal That Shows Its Work?

PahRoo delivers commercial appraisals with the reasoning visible, so lenders, owners, and counsel can see exactly how the value was reached.

Request a Commercial Quote

Frequently Asked Questions

What are the three approaches to value?

The sales comparison approach, the cost approach, and the income approach. Sales comparison looks at what similar properties sold for. Cost looks at what it would take to build the property new, less depreciation, plus land. Income looks at what the property earns and what an investor would pay for that income.

Which approach matters most for commercial property?

For income-producing property such as apartments, offices, retail, and leased industrial, the income approach usually carries the most weight. For special-purpose property with few comparable sales, the cost approach often leads. The appraiser explains the weighting in the reconciliation.

When is the cost approach used in a commercial appraisal?

It is most useful for new or nearly new construction, where depreciation is small, and for special-purpose properties such as schools, churches, and utility facilities that have almost no sales or rental market. On older income property it usually supports the conclusion rather than driving it.

How do appraisers reconcile the three approaches?

They weigh the quantity and quality of evidence behind each indication of value, then explain which approach deserves the most weight for that property and assignment. Reconciliation is a reasoned judgment, not a mathematical average of the three numbers.

Can an appraiser use only one approach to value?

Yes, when the others are not applicable or necessary, but the appraiser must disclose the reasoning for leaving them out. Federal appraisal guidance expects any applicable approach to be developed, and expects an explanation whenever one is omitted.

Talk to an Appraiser Who Will Explain the Reconciliation

PahRoo Appraisal & Consultancy has appraised commercial property across Chicago and Cook County for more than two decades, along with Dallas-Fort Worth, Philadelphia, Phoenix, and Naples. Our commercial assignments run from single-tenant industrial to mixed-use and special-purpose property, and every report explains how the approaches were weighed. You can review our full real estate appraisal services, read common questions on our appraisal FAQ page, or call 773-388-0003 to discuss an assignment.


Read Now
Bruce Jones, MAI, on going concern appraisal, Appraisers on Purpose Season 9 Episode 1
93 Views
Podcast
Going Concern Appraisal: Bruce Jones, MAI

Appraisers on Purpose  |  Season 9, Episode 1  |  Bruce Jones, MAI  |  56 minutes  |  May 21, 2025

Most appraisers will go an entire career without appraising a going concern property correctly, and a fair number will do it wrong without ever finding out. Bruce Jones, MAI, has spent the last decade teaching the courses that fix that, and in this episode he lays out the analysis that separates the real estate from the equipment from the business.

If you have ever taken a restaurant, a car wash, a gas station, or a hotel assignment and reached for your standard commercial template, this conversation is about why that template produces the wrong number.

Jump to a chapter

00:00 Introduction
03:18 Sixteen years in brokerage, then a bad appraisal on his own building
10:23 The course where an instructor called the textbook the Bible
16:03 The demonstration report and the 4 a.m. club
19:45 Dodd-Frank, AMCs, and the decision to go somewhere else
24:22 Where the excess earnings method came from
34:10 The one thing a business appraiser cannot do
35:52 Why old restaurants keep becoming urgent care clinics
39:03 Teaching the courses, and the literature catching up
46:49 Building a national practice by saying no
51:11 What sophisticated lenders are actually underwriting
52:03 Florida hotels and rebutting business appraisers

What you will take away

  • Why the sticks and bricks approach gives you the wrong answer on a going concern property
  • Where the excess earnings method came from, and why business appraisers dislike a method real estate appraisers now rely on
  • The one thing a business appraiser cannot do, and why that makes you necessary rather than optional
  • How restaurant square footage collapsed from 8,000 to 3,500, and what that did to functional obsolescence
  • How Bruce built a practice across 18 states by turning down the small assignments

Sixteen years in brokerage, then a bad appraisal on his own building

Watch from 03:18

Bruce came out of college a finance major who wanted to be a financial planner, sat through a few interviews that turned out to be whole life insurance pitches, and took a friend up on an offer to try real estate instead. He stayed sixteen years: six as a residential agent, ten on the commercial side. By the end he was New Jersey broker of record for a company large enough that a publicly traded firm later acquired it.

What moved him was a cash out refinance on a property he owned, two houses on one lot, one 2,100 square feet and one 1,600. The appraiser arrived and warned him the only comparable he could find was a small duplex a couple of miles away. Its two units rented at roughly $650 and $700. Bruce was collecting $2,000 and $1,600. He sent the appraiser away and ordered a different one.

The course that started it

In 1997 he sat in a graduate level appraisal course taught by an attorney who was also an MAI. The instructor held up the ninth edition of The Appraisal of Real Estate and called it the Bible.

“So it is not about whoever expresses their opinion with the most force. No, there is actually a rule book. And I thought, that is kind of cool.”

Bruce Jones, MAI  |  10:49

Coming from brokerage, where the loudest opinion often wins, the existence of a standard was the draw. He did not act on it for another seven years. He entered the appraisal field in 2004 by partnering with an MAI to form a joint brokerage and appraisal company, which let him keep earning as a broker while logging his hours.

The demonstration report and the 4 a.m. club

Watch from 16:03

Bruce took his MAI coursework at Rutgers on weekends, then drove six or seven hours to Pittsburgh for the final course because New Jersey was not offering it. He finished the entire curriculum before sitting for state certification, which made the state exam easy, and passed the comprehensive on the first attempt.

The demonstration report took two years. He went to a week-long workshop in Texas built to get candidates started, and the instructor asked how many people in the room of about twenty had been working toward the MAI for a decade with only the demonstration report left. A quarter of the hands went up. Then he asked who had been at it for twenty years. Four or five hands.

Bruce chipped away at it every morning before work for two years and got it done. Within a year of earning the designation he opened his own firm, in 2011.

Dodd-Frank, AMCs, and the decision to go somewhere else

Watch from 19:45

The timing was rough. Dodd-Frank arrived in 2010, and the relationships Bruce had built with small and mid-sized banks across the tri-state area went progressively to appraisal management companies. The market he knew reorganized itself around fee and turn time.

In 2014, partly out of frustration, he signed up for a business valuation course in Texas run by the International Society of Business Appraisers. It ran two weeks. He and the rest of the class were up past midnight reading to keep pace, which he notes was not his habit as a man normally in bed by 9:30.

Sitting next to a fellow attendee from Miami, the light went on for both of them when the instructor got to the excess earnings method.

Where the excess earnings method came from

Watch from 24:22

The U.S. Treasury Department developed the excess earnings method in the wake of Prohibition. Breweries had lost enormous business value and were writing it off, and Treasury needed a way to separate the value of the business from the value of the real estate.

Business appraisers largely regard it as a poor method, too subjective to defend. Bruce wrote an article on exactly that tension, opening with quotes from well known business valuation professionals criticizing the method, and submitted it to NACVA. That same criticized method is what real estate appraisers now use to appraise going concern properties.

Mechanically, excess earnings are the earnings left over after the tangible assets have received a return on and return of investment. Total revenue is conceptually split three ways: a stream that supports the real estate, a stream that provides a return on and of the equipment, and whatever remains. The remainder supports the business.

Bruce is clear that this is an iterative process rather than a formula you run once. If nothing is left over for the business, the answer is not that the business is worthless. The answer is that the whole pie has to shrink, because the business has to clear enough to be sustainable. He compares it to a shopping mall after the anchors leave. Asking what the mall is worth on a price per square foot basis misses the question entirely.

“The value of the real estate and also the value of the equipment is based on its contribution to the enterprise. It is not the sticks and the bricks.”

Bruce Jones, MAI  |  30:04

The one thing a business appraiser cannot do

Watch from 34:10

Every real estate appraisal turns on highest and best use. A business appraiser cannot perform it. Not will not, cannot: no data, no training, no license.

“Business appraisers cannot do highest and best use for real estate. They cannot. They do not have the data, they do not have the training, they do not have the license.”

Bruce Jones, MAI  |  34:10

Bruce’s example: a restaurant clearing roughly half a million a year, sitting on three and a half acres that CVS would like to have. A real estate appraiser sees the answer immediately. The highest and best use may be to knock it down. A business appraiser working alone will never get there.

Which cuts both ways. A real estate appraiser using the excess earnings method has to be able to analyze the business, then turn the corner and ask what the site would be worth cleared. Competency in one discipline is not enough in either direction, and Bruce’s position is that these assignments need an interdisciplinary approach rather than two specialists working independently.

Why old restaurants keep becoming urgent care clinics

Watch from 35:52

Restaurants built twenty to twenty five years ago commonly ran 7,000 to 8,000 square feet. New construction now averages around 3,500.

That is a functional obsolescence problem sitting across a very large inventory of buildings. Bruce has watched older restaurants get bought and converted to medical facilities, and watched others get split, with half becoming an urgent care and half staying a restaurant. Owners are right sizing the box.

Teaching the courses, and the literature catching up

Watch from 39:03

Bruce teaches both American Society of Appraisers courses on valuing going concern properties, three and a half days each, and has done so for three years. His students are mostly experienced appraisers, twenty to forty years in, who have never handled these property types, and they come from across the country and increasingly from outside it.

The question he hears most often in class is who has the template set up. There is not one, because the analysis is different. Conceptually he does not think it is that complicated. You just have to look at it differently, which is harder than it sounds when you have run the same approach for thirty years.

He also notes that the appraisal literature took a long time to catch up. Earlier editions of The Appraisal of Real Estate handled going concern poorly, including the thirteenth, which was current when the course he now teaches was written. By his read the fifteenth edition finally gets it right.

Building a national practice by saying no

Watch from 46:49

Bruce has now appraised in 18 states, having started out wanting to work in his own county and the two or three next to it. He jokes that friends call looking for local comps and he has not worked in his own area in a long time.

The mechanism was not marketing. He has written eight or nine articles and says he should post more. What built the practice was a small core of people who knew him from his institutional work, where he had appraised complex property types including charter schools, plus a few reports in circulation that demonstrated what he could do.

The harder part was capacity discipline.

“I had to stop bidding on the little stuff, and basically keep myself available so that when I got those calls, I had the time and had plenty of bandwidth.”

Bruce Jones, MAI  |  46:49

What sophisticated lenders are actually underwriting

Watch from 51:11

Bruce’s referral flow comes largely from brokers and mortgage brokers working on financing that covers the business, the equipment, and the real estate together. They come to him because a wrong number on these property types is expensive, and because selecting on fee and turn time does not account for competency.

His observation on the lending side deserves attention. Many real estate appraisers instinctively frame the question as what the property is worth if the business goes dark. That is not what a sophisticated lender is underwriting. The lender is underwriting the likelihood that this operator keeps servicing the mortgage, which depends on revenue clearing enough to support the real estate and still leave the operator a living.

Florida hotels and rebutting business appraisers

Watch from 52:03

Bruce has been retained by Orange County, Florida to rebut business appraisers in hotel tax appeal matters, part of the wave that followed the early Disney cases. The pattern he describes is a real estate appraisal paired with a business appraiser opining that hundreds of thousands of dollars of hotel value is intangible, produced without the two disciplines collaborating.

That work is what has him energized for the next several years, and it puts the whole argument in one place. When the analysis crosses disciplines and nobody bridges them, the number comes out wrong and somebody has to prove it.

About Bruce Jones

Bruce Jones, MAI, is a New Jersey based appraiser specializing in going concern and special use properties. Sixteen years in real estate brokerage came first, including a decade on the commercial side as a New Jersey broker of record, before he entered the appraisal profession in 2004. The MAI designation followed, and in 2011 he founded [CONFIRM: firm name].

His work now spans 18 states. Bruce teaches both American Society of Appraisers courses on valuing going concern properties, and Orange County, Florida has retained him in hotel tax appeal matters. His published articles cover the application of the excess earnings method to real property assignments.

The file that does not fit your template

Bruce’s students ask who has the template set up. There is not one, because the analysis is different. That is true of more than going concern work.

When a file crosses into territory that needs an analysis you do not run every day, a contested tax appeal, an estate where the heirs do not agree, a matter heading toward testimony, you have two options. Turn it down, or hand it to a firm that will take it and give the client back to you.

PahRoo takes complex and contested assignments from other appraisers. Cook County tax appeals in front of the Assessor and Board of Review. Estate and trust matters. Divorce and marital property division. Partition actions. Litigation support where the report gets read by someone looking for a reason to throw it out.

You keep the client. You stay the point of contact.

Send us the file

Frequently Asked Questions

What is a going concern appraisal?

A going concern appraisal values a property where the highest and best use is continued operation of the real estate together with a business and, usually, its equipment. Restaurants, car washes, gas stations, and hotels are common examples. The appraiser has to determine what portion of the enterprise revenue supports the real estate, what portion supports the equipment, and what remains to support the business, rather than valuing the physical components on their own.

What is the excess earnings method?

The excess earnings method separates the value of a business from the value of the real estate by identifying earnings in excess of what the tangible assets require to receive a return on and return of investment. It was developed by the U.S. Treasury Department after Prohibition to help breweries account for lost business value. It is closely related to the parsing of income method, with the difference being that the excess earnings method prioritizes the real estate first.

Can a business appraiser determine highest and best use?

No. Highest and best use analysis requires real property data, training, and licensure that business appraisers do not hold. This is why going concern assignments benefit from an interdisciplinary approach, with the real estate appraiser and the business appraiser collaborating rather than working independently. A site’s highest and best use may be redevelopment even while a profitable business operates on it, and only a real estate appraiser can reach that conclusion.

Do I need a business valuation designation to appraise going concern properties?

Not necessarily, but you do need competency in analyzing a business, not just a template. The American Society of Appraisers offers two courses on valuing going concern properties, each running three and a half days. Coursework gets you started rather than making you proficient. As with real property appraisal generally, competency develops through practice, not from a licensing class.

Why can’t I use my standard commercial template on a restaurant or gas station?

Because the analysis is different. A general purpose property template values the physical components, typically on a price per square foot basis. A going concern property derives the value of both the real estate and the equipment from their contribution to the enterprise. Starting from the sticks and bricks produces the wrong number and misses the possibility that the site is worth more cleared than it is occupied.

Listen and subscribe

Appraisers on Purpose features appraisers and industry professionals talking about how they built their careers, what they learned, and what they are doing now for their teams, their clients, and the profession. Hosted by Michael Hobbs, President of PahRoo Appraisal & Consultancy.

Watch every episode on the Appraisers on Purpose YouTube channel.

Read Now
Bound commercial appraisal report open on a desk
109 Views
Commercial Appraisals
What Goes Into a Commercial Appraisal Report

The first time a borrower opens a commercial appraisal report, the reaction is usually the same. Why is this ninety pages long? The length is not padding, and most of those pages exist because a regulator, a court, or a credit committee needs them there.

By the end of this article, you’ll know:

  • What each major section of a commercial appraisal report contains
  • What highest and best use means and why it comes before the value
  • Which pages to read first if you only have ten minutes

What a Commercial Appraisal Report Contains

A narrative commercial appraisal report normally includes these sections, roughly in this order:

  • Letter of transmittal and summary of salient facts. The conclusion, the effective date, and the key property details on one or two pages.
  • Scope of work. What the appraiser did, and what the appraiser did not do.
  • Property identification and legal description. Address, parcel numbers, ownership history, and current use.
  • Regional, market, and submarket analysis. Supply, demand, rents, vacancy, and new construction.
  • Site and improvement description. Zoning, utilities, access, construction, condition, and functional layout.
  • Highest and best use analysis. As vacant and as improved.
  • The approaches to value. Sales comparison, cost, and income, as applicable.
  • Reconciliation and final opinion of value.
  • Certification, assumptions, limiting conditions, and addenda. Including the appraiser’s credentials and the supporting exhibits.

Scope of Work Sets the Rules for Everything After It

The scope of work section is short, and it governs the rest of the document. It states what the appraiser inspected, what data was researched, which approaches were developed, and what was excluded.

Federal banking guidance treats this as a matter of substance rather than formality. The Interagency Appraisal and Evaluation Guidelines state that regardless of the report option used, the report should contain enough detail for the institution to understand the scope of work performed, including research that was typically warranted but omitted, along with the reason. So if you want to know how much weight a report can carry, start here.

Highest and Best Use Is the Question Behind the Number

This is the section that surprises people, and it does real work. Highest and best use asks what the reasonably probable and legally permissible use of the property is, given what is physically possible and financially feasible, that produces the highest value.

The appraiser answers it twice. First as though the site were vacant, then as the property is currently improved. Those answers can differ. An older single-story building on a corner zoned for four stories may be worth more as a redevelopment site than as the building standing on it today.

The answer shapes everything downstream. It determines which comparable sales are relevant, which income stream is analyzed, and whether demolition costs belong in the math. Change the highest and best use conclusion and the value changes with it.

The Approaches, the Reconciliation, and the Certification

The approaches to value take up the largest share of the page count, because each one shows its supporting data. The sales comparison approach includes a grid with adjustments explained. The income approach shows the rent roll analysis, expense reconstruction, vacancy assumption, and the derivation of the capitalization rate. The cost approach shows land value, cost figures, and depreciation.

Reconciliation follows. The appraiser weighs the indications and explains which approach carries the most weight for this property. Then comes the certification, where the appraiser states that the analysis complies with professional standards, that the compensation was not contingent on the value reached, and that no undisclosed interest exists in the property.

The assumptions and limiting conditions matter too. An extraordinary assumption, for example that a property is free of environmental contamination absent a report, can materially affect the conclusion. Read those before relying on the number.

Which Pages to Read First If You Only Have Ten Minutes

Start with the summary of salient facts, then jump to three places. Read the scope of work to see what was and was not done. Read the highest and best use conclusion to see what use the value assumes. Read the reconciliation to see which approach the appraiser trusted and why.

Then check the extraordinary assumptions and hypothetical conditions. Those four stops will tell you more about the reliability of a commercial appraisal report than reading the adjustment grids front to back. If something in those sections does not match the transaction you are underwriting, that is the moment to ask the appraiser a question, not after the loan closes.

A Report Your Credit Committee Can Actually Follow

PahRoo writes commercial appraisals that hold up under lender review, audit, and cross-examination, with the scope and reasoning stated plainly.

Order a Commercial Appraisal

Frequently Asked Questions

What is in a commercial appraisal report?

A transmittal letter and summary of facts, the scope of work, property identification, market and submarket analysis, site and improvement description, highest and best use analysis, the applicable approaches to value, reconciliation, and the certification with assumptions and addenda.

What is a narrative appraisal report?

A narrative report presents the analysis in written form rather than on a standardized form. Commercial assignments use narrative reports because each property is different and the reasoning behind the value has to be explained rather than checked off.

Why are commercial appraisal reports so long?

Because each approach to value shows its supporting data, and because lenders, regulators, and courts need enough detail to follow the reasoning. Market analysis, highest and best use, adjustment grids, income analysis, and exhibits all add pages.

What is highest and best use?

It is the reasonably probable use of a property that is legally permissible, physically possible, and financially feasible, and that produces the highest value. Appraisers analyze it both as though the site were vacant and as the property is currently improved.

What is an appraisal certification?

A signed statement in which the appraiser confirms compliance with professional standards, discloses any interest in the property, and confirms that the fee was not contingent on reaching a particular value. It also identifies who provided significant assistance.

Ask for a Report That Explains Itself

PahRoo Appraisal & Consultancy prepares narrative commercial appraisal reports for lenders, attorneys, CPAs, and property owners in Chicago and Cook County, Dallas-Fort Worth, Philadelphia, Phoenix, and Naples. Every report states its scope, its highest and best use conclusion, and its reconciliation in language a reader can follow. Learn more about our commercial appraisal services, browse our appraisal FAQ page, or call 773-388-0003.


Read Now
Commercial real estate appraiser in Chicago analyzing Highest and Best Use for property appraisal.
169 Views
Commercial Appraisals
Chicago Commercial Real Estate Appraiser on Redevelopment: Highest & Best Use

An owner calls about a corner building on a Chicago retail strip. The zoning allows five stories. The building is two. The owner wants the appraisal to reflect the three floors that are not there. A commercial real estate appraiser has to answer a narrower question first. Would a buyer pay for them today?

By the end of this article, you’ll know:

  • The four tests behind a highest and best use finding, and why their order decides the answer
  • How a Chicago zoning rule can quietly remove a use an owner assumes is still there
  • What the Cook County Assessor’s commercial model does with use, and where an appraisal pushes back

What a Commercial Real Estate Appraiser Tests Before Pricing Upside

Highest and best use is the reasonably probable use that supports the highest value as of the appraisal date. Four tests get it there, and they run in order.

Legally permissible comes first. Zoning, deed restrictions and other enforceable limits either allow the use or they do not. Physically possible comes second: size, shape, topography, access, utilities.

Financially feasible comes third, and it is the one that does the damage. The use cannot be speculative. Demand has to generate enough income to cover construction and carry the property through its economic life. It also has to deliver a return of the investment and a return on it.

Maximally productive comes last. Among the uses that survive the first three tests, the winner is the one producing the highest residual land value.

Owners usually argue the fourth test while the first three sit unresolved. That is the whole problem. A use has to clear all four, in sequence, before it belongs in an opinion of value.

Chicago Zoning Can Quietly Remove the Use You Think You Have

Plenty of older Chicago buildings run on nonconforming use rights. The use was lawful when it started, the district around it changed, and the use carried on as grandfathered.

Those rights expire. Under Chapter 17-15 of the Chicago Zoning Ordinance, a nonconforming use discontinued for 18 continuous months or more loses its rights. Re-establishing the use is then no longer allowed. Six months is the limit for a nonconforming open use of land. Ceasing operations counts as discontinuance even when the structure and equipment stay put. So does failing to maintain a valid business license.

Expansion gets limited too. A nonconforming business, commercial or manufacturing use in an R district cannot expand without an approved variation. And when a structure holding a nonconforming use suffers intentional damage from causes within the owner’s control, the use does not come back at all.

For valuation that converts a legal question into a money question. A vacant nonconforming building in month 15 is a different asset from the same building in month 19. Before anyone prices a use, somebody should confirm the use still legally exists. Counsel makes that call, not the appraiser, but the appraiser has to ask.

Feasible Means the Numbers Clear, Not That the Zoning Allows It

Zoning that allows five stories grants permission. It does not create demand.

Feasibility asks a harder question. Could a buyer build those floors and still earn a return? That means hard costs and soft costs. It also means the entitlement calendar, carry during construction, lease-up time, and the exit capitalization rate a buyer would underwrite today.

When those numbers do not clear, the extra floors are not value. They are an option nobody is paying to exercise.

This also explains why a use that penciled two years ago may fail now. Construction pricing and financing terms both move, and feasibility moves with them. Buyers pay for what they can finance, so the appraisal follows the financing, not the zoning map.

You Cannot Value the Land One Way and the Building Another

Here is the error that turns up most often in appeal files and broker pro formas. Someone values the site as though it were cleared for redevelopment. Then they add the income the existing building throws off.

Appraisal practice does not permit that. The principle of consistent use requires the site and the improvements to reflect the same use. You get the income of the building standing there. Or you get the land value of a cleared site, less the cost of clearing it. Not both.

The two analyses answer different questions on purpose. One looks at the property as improved. The other looks at the site as if vacant. Demolition becomes the economic answer only when the land value as if vacant exceeds the value of the property as improved.

A transitioning corridor can carry an interim use now and a different ultimate use later. That is a legitimate finding. It is still one use at a time.

How Cook County Values Commercial Property, and Where Use Enters

The Cook County Assessor reviews one third of the county each year. The rotation runs between the City of Chicago, the north suburbs, and the south and west suburbs. Most commercial property goes through a mass-appraisal income model. Market rents, typical vacancy and collection loss, typical operating expenses, then a loaded capitalization rate that carries the tax burden inside the rate instead of in the expense line.

Then the level of assessment applies. Office, industrial and retail typically sit at 25 percent. Multifamily sits at 10 percent. County ordinance sets those levels, so they are not something an appraisal argues about.

Two things follow for anyone weighing an appeal. First, the fight is over market value. A model built from typical rents and typical vacancy can miss a specific building badly. Second, an assessment may appear to carry a redevelopment assumption. Then the appraisal’s job is to show the feasibility work, not to assert that the assumption is wrong.

For counsel, the practical reading is narrow. An appraisal establishes value and documents how it got there. Whether that evidence carries the appeal belongs to the reviewing body and to the lawyers arguing it.

Decide Which Building You Are Actually Selling

Settle three things before you order an appraisal, in this order. Whether the current use is still legally yours. Whether any alternative use clears cost, time and financing. And whether you are asking the market to pay for the building’s income or for the site’s land value.

An appraisal that answers those in sequence survives a review. One that stacks the best answer from each on top of the others does not. Reviewers on the lending side and the tax side both look for exactly that stack.

Is Your Building Priced for a Use That Never Happened?

Send us the property and the story behind it. We will tell you which use the market will actually pay for, and what the file needs to show it.

Get a Commercial Appraisal

Frequently Asked Questions

Does highest and best use always increase property value?

No. Highest and best use is a test, not a premium. It can just as easily support a lower value. A redevelopment scenario that fails the feasibility test carries no weight. In many cases the analysis confirms that the existing use is the highest and best use.

Can the current use be the highest and best use?

Yes, and it often is. If clearing a site and rebuilding costs more than the finished project would return, the building standing there stays the answer. Demolition becomes the economic answer only when land value as if vacant exceeds the property’s value as improved.

What happens to a nonconforming use in Chicago if the building sits empty?

The Chicago Zoning Ordinance treats 18 continuous months of discontinuance as the end of nonconforming use rights. Six months applies to a nonconforming open use of land. Ceasing operations or letting a business license lapse counts as discontinuance. Whether a specific property has crossed that line is a question for a zoning attorney.

Why did my assessment stay high when my building is half empty?

The Cook County Assessor values most commercial property with a mass-appraisal income model. That model uses typical vacancy for similar properties, not a single building’s actual occupancy. Where a property performed worse than typical, that gap is the argument, and it needs documentation rather than assertion.

Does a commercial appraisal help with a Cook County tax appeal?

It gives counsel an independent opinion of market value with the analysis behind it, including the highest and best use finding. What weight it carries in a given appeal depends on the record and the reviewing body. That is your attorney’s territory, not the appraiser’s.

Where PahRoo Fits on a Commercial Assignment

Michael Hobbs, MAI, SRA, signs every PahRoo report. The firm works out of Lincolnwood across Chicago and Cook County. Our commercial appraisal practice covers office, retail, industrial and mixed-use assignments for lending, litigation, estates and tax appeals. There is more on how we approach commercial valuation in a shifting market, and on what our Chicago coverage includes.

Read Now
Zoning map overlay demonstrating impact on property values in Chicago
435 Views
Homeowner Guides & Tips
How Zoning Changes Your Property’s Value

Zoning might be the most boring subject in real estate, and it quietly outranks almost everything else. Those colored squares on a city map decide what your property can legally become. So they also set a ceiling on what it is worth. Two identical lots on the same street can carry very different values because one allows three units and the other allows one. Most owners never check which lot they own.

By the end of this article, you’ll know:

  • Why appraisers analyze zoning before anything else, through highest and best use.
  • What the research says zoning does to prices, in six-figure terms.
  • How Chicago’s 2025 ADU ordinance redrew value ward by ward.

Zoning Is the First Question an Appraiser Asks

Appraisal doctrine has a name for this: highest and best use. Before valuing a property, an appraiser determines the most profitable use that is legally permissible, physically possible, and financially feasible. Notice, too, which test comes first. Legal permissibility is the zoning question, so everything downstream depends on it. A lot zoned for a single home gets valued as a single home. The same dirt zoned for six units gets valued as a development site, because buyers pay for what they are allowed to build.

So when zoning changes, value can move without a single nail being driven. The use changed, so the buyer pool changed, and the price followed. That is also why appraisers track zoning board agendas and draft map amendments. After all, a variance or a text amendment can rewrite a property’s highest and best use overnight.

The Research Puts Numbers on It

How much can lines on a map matter? Reserve Bank of Australia economists measured it by comparing home prices with the cost of supplying homes, and the Cato Institute’s summary of their study reports the gap. Zoning restrictions raised the average detached house price in Sydney by about $489,000, roughly 73% above the cost of supply. Melbourne’s detached prices ran 69% above supply cost, too, and Sydney apartment prices ran 85% above marginal cost.

So those are restriction effects: scarcity created by what the map forbids. The mirror image is entitlement value, what a property gains when the map loosens. Arlington, Virginia tried exactly that by allowing duplexes in single-family zones, and teardown economics shifted immediately. Then opponents sued, and the fight ran all the way to an appeals court in 2025. Both halves of that story matter to a property owner. Zoning can mint value, and contested zoning can hold it hostage until the courts finish.

Chicago Just Redrew Its Own Map

This is not theory anywhere, and in Chicago it is this year’s news. In September 2025, the City Council unanimously approved an ordinance legalizing accessory dwelling units in areas zoned for small apartment buildings and in business districts, building on pilot zones that date to 2020. Inside those original pilot areas, ADUs are also allowed by right.

Here is the wrinkle an appraiser cannot ignore. In single-family zones, the city’s most common zoning, whether ADUs are allowed depends on the local alderperson. So the same bungalow can hold real ADU potential in one ward and none in the ward next door, a patchwork that changes lot values block by block. The ordinance also requires union apprentice labor for ADU construction, which raises the cost side of the feasibility test. Potential income, ward-level permission, and build cost now all feed one question: what is this specific lot’s highest and best use today?

Zoning Cuts Both Ways

Owners mostly hear the upside stories, but the doctrine is symmetrical. A downzoning can strip development potential a purchase price assumed. A legal nonconforming use, the grandfathered duplex in a single-family zone, can lose its status after a fire or a long vacancy, taking its income value with it. And “zoning potential” that requires a variance is a maybe, not an asset, until the approval exists.

Chicago’s new ordinance shows the whole spectrum at once. If your ward allows ADUs, your garage just became potential income. If it does not, the identical garage one ward over stays a garage. Same city, same ordinance, different values. So before celebrating or shrugging, check where your block actually landed. So buyers who pay full entitlement value for un-entitled land are paying for someone else’s homework before it is graded.

Check the Map Before You Price the Property

So the order of operations matters. Before you buy a teardown, sell a wide lot, or build the addition, find out what the zoning actually permits and what the market pays for that permission. An appraisal does this work formally. The highest and best use analysis establishes the legal envelope, and the valuation prices the property inside it, with the evidence attached. If the zoning also moved your assessment, our guide to Cook County property taxes covers what to do about that. Either way, the map knows something about your property’s value. It is worth reading before the market reads it for you.

Is your lot worth more than your house?

A highest and best use analysis tells you what the zoning really permits and what that permission is worth in your market.

Price the Permission

Frequently Asked Questions

Does zoning affect property value?

Strongly. Zoning sets what a property can legally become, which caps or expands its highest and best use. Research summarized by the Cato Institute found zoning restrictions raised average Sydney detached house prices by about $489,000, roughly 73% above the cost of supply, and similar effects appear wherever rules limit what can be built.

What is highest and best use in an appraisal?

It is the most profitable use of a property that is legally permissible, physically possible, and financially feasible. Appraisers determine it before valuing anything, because the use defines the buyer pool and the price. Zoning is the legal-permissibility test, which is why it comes first.

Can rezoning increase my property’s value?

Yes, sometimes dramatically, because a rezoning that permits more units or new uses changes what buyers can do with the land. The value is only as durable as the approval, though. Contested changes can sit in litigation, as Arlington’s duplex program did, so entitlement value should be priced with its risks.

What happens to value if zoning changes against me?

A downzoning can remove development potential your price assumed, and a grandfathered nonconforming use can lose its protected status after damage or extended vacancy. In both cases the property’s highest and best use narrows, and the value follows it down. An appraisal can quantify the before and after.

How do I find out what my property’s zoning allows?

Start with your city’s online zoning map, which shows the district for each parcel, then read that district’s permitted uses. For decisions with money attached, a highest and best use analysis from an appraiser interprets what the designation permits and what the market pays for it.

Valuation That Reads the Zoning Map First

PahRoo Appraisal & Consultancy has analyzed highest and best use for more than two decades. An appraiser holding both MAI and SRA designations leads the firm. Maybe your question is a residential lot with ADU potential. Maybe it is a development site needing a commercial appraisal, or an estate or dispute needing broader appraisal services. Either way, the analysis starts where the value starts: with what the map permits.


Read Now

NEWSLETTER

Knowing a property's true value is key
to making informed real estate decisions

Contact us TEST

appraisal@pahroo.com

+1 (773) 388-0003

Visit us

7383 Lincoln Ave Suite,
#100 Lincolnwood, IL, 60712

© 2026 PahRoo, All Rights Reserved