Green Building Features: A Budding Valuation Consideration

With sustainability becoming more common in both residential and commercial real estate, appraisers are increasingly asked to weigh in on buildings with green features. While green valuations haven’t yet fully bloomed, the seeds have clearly been planted for environment-related features to affect property value.

Why green matters

At this point, many valuators are reluctant to incorporate green features in their valuations. After all, most sustainable or green buildings are relatively new, so there’s a lack of data on sales and returns. But the growing demand for such properties means this aspect can’t be ignored for long.

Many companies and governments these days are requiring certain LEED or Energy Star ratings on new construction and rental property, including the federal government’s General Services Administration. Energy Star–certified buildings net an average rental premium of 4% and an average sales price premium of 26%, according to one study, “Green Noise or Green Value? Measuring the Effects of Environmental Certification on Office Values.”

Moreover, the University of California, Berkeley, found that, among Energy Star–certified buildings, saving $1 in energy costs is associated with gaining a 4.9% premium in market valuation. This translated into an average increase in transaction price of $13 per square foot. And the U.S. Green Building Council has estimated that 40% to 48% of commercial construction by value will be green by 2015.

With sustainability becoming more important to tenants and buyers, it seems likely that lenders will eventually get on board, too. Their due diligence and underwriting may well expand to reflect the benefits and risks associated with green properties.

Valuing green

In recognition of the growing green role in residential valuations, the Appraisal Institute recently released an updated form intended to help appraisers analyze the value of energy-efficient homes. The Residential Green and Energy Efficient Addendum is an optional addition to Fannie Mae Form 1004, which is the valuation profession’s most widely used form for mortgage lending purposes.

The five-page document offers a list of factors that valuators consider when appraising residential properties with green features, including:

  • Certifications by LEED or similar organizations,
  • Energy-efficient items (insulation, water systems, windows, lighting, appliances and HVAC),
  • Energy ratings,
  • Indoor air quality,
  • Utility costs,
  • Solar panels, and
  • Federal, state and local incentives that offset costs.

The Appraisal Institute’s form also considers the property’s amenities, including pedestrian friendliness, access to public transportation, orientation and landscaping. Geographic location is also critical. Certain markets — such as New York, Washington, D.C., Chicago, San Francisco, Seattle and Portland, Ore. — have a higher green demand. Cities like Detroit and Cleveland are less focused on sustainability, at least for now. A green property also may be more valuable in locations with higher utilities costs, including water, electricity and natural gas charges.

How appraisers quantify the added value of sustainability varies significantly. For instance, the unique attributes of a green property might require a wider comparable radius to find similar properties. In the absence of comps, an appraiser might add a green premium based on the replacement cost of energy-efficient items.

For commercial properties valued using the income approach, cost savings and financial incentives of being green will generate a higher net operating income. If so, the appraised value may already include a green premium implicit in the capitalization methodology. Care should be taken not to double-count the benefits.

Overcoming challenges 

“Comparables” are often the basis for both residential and commercial property appraisals. While it’s still difficult to find green comps, this situation will surely change as more sustainable and retrofitted properties go on the market. In the meantime, make sure your property appraiser is up to speed on green features, technologies and practices and knows how to incorporate them in a valuation.

Copyright © 2014 Thomson Reuters / BizActions.