California Real Estate Practice Exam

Which of the following describes a method to value income property based on the net income it produces?

1. Cost approach

2. Income approach

3. Market approach

4. Sales comparison

The correct answer is: Cost approach

The method that specifically focuses on valuing income property based on the net income it produces is known as the income approach. This approach capitalizes the income generated by a property to determine its overall value, considering the potential revenue from leasing or renting the property and accounting for operational costs, thus resulting in the net income. In this method, the present value of the expected future income is calculated, and this can include considerations of vacancy rates and operating expenses. The income approach is particularly applicable to investment properties, where the income stream is the primary factor in determining market value. The cost approach evaluates the property based on the cost to replace it minus depreciation, and the market approach compares the property to similar properties that have recently sold to ascertain value. The sales comparison method focuses on analyzing the sale prices of comparable properties rather than the income they generate. Hence, while these methods are valid for property valuation, they do not specifically address income production as the income approach does.