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Difference between replacement value and market value

[Updated: 08 October 2024]

Replacement value: This is the current cost to replace a building, i.e. to reinstate a property to its original state if completely destroyed. It excludes the value of the vacant land itself. The replacement value is usually determined by adding the estimated cost to replace the buildings (contract price), professional fees, demolition costs plus VAT.

Market value: This is the anticipated price or price range active buyers would currently be willing to pay for your house or property. The estimated market value would be determined by analysing recent sales in an area of similar properties and by taking current market conditions into account, estimate a price at which a certain property is expected to fetch if sold at a certain time. This includes the whole property, i.e. land and buildings or in the case of sectional title, the unit market value.

 

Frequently Asked Questions (FAQ):

Q: Why would the market values and replacement values likely vary?

A: A buyer may be willing to pay a premium for a particular property because, at that given time, there may be a shortage of properties in that area. For example, a house or sectional title unit in an area near primary and high schools, walking distance from a convenient store, near a public transport system, etc. may fetch a much higher price than the same house 10 kilometres away without those amenities nearby. However, the cost to replace those houses may be exactly the same.

 

Q: Can the replacement value exceed the market value?

A: Yes, it can. In some cases, a property located in a less desirable area, or a problematic complex may struggle to attract buyers, leading to a lower market value. Factors like high crime rates or deteriorating conditions can reduce what the property would sell for. However, the replacement value is based on the cost of rebuilding the structure, which includes materials, labour, and professional fees, all of which tend to rise with building inflation. As a result, while the market value may decrease, the replacement cost may continue to climb, making it higher than the property’s market value.

 

Q: Could the replacement value vary from area to area as does the market value?

A: It could but if the factors are equal, the values to replace should be equal. In other words, if two properties are similar in size and specification, built on similar land and accessibility the same, equidistant from resources (delivery costs of materials and labour the same), the replacement value should be the same. However, the cost to replace would differ when comparing areas like the Cape Flats and a cliff overhang near Noordhoek; the cost of materials and labour as well as construction costs will be more expensive in Noordhoek. Labour and material transport costs will be higher plus more equipment like cranes may be required at the Noordhoek site. Building costs also vary from place to place, e.g. on average, building costs in Cape Town may be higher than in Johannesburg at a given time. This is usually measured at a rate per square metre.

 

Q: Do both market value and replacement value factor in the cost of the land?

A: No, the market value includes the value of the land and in the case of a sectional title unit, it includes that section plus its undivided share in the common property including the land. The replacement value excludes the land but will include foundations and services on the property.

 

Q: Who determines market value and who determines replacement value?

A: The market value is an estimated anticipated market price currently or over a given time or period.  This you can obtain from someone who is familiar with, or has access to, property trends and recent sale prices in the area. Such a person would normally be a qualified estate agent and/or a property valuer who uses the same methodology. On the other hand, the replacement value should be determined only by someone suitably qualified to do so, such as a quantity surveyor or registered qualified property valuer. Such a person calculates, with prices and costs, the construction costs, professional fees, demolition costs with a view to determining what it would cost to put that same building back to its original state if reduced to rubble.

 

Q: What is the municipal valuation of the property in relation to the market valuation?

A: The municipal valuation is the value that the municipal authority places on the property with a view to charging that property a certain tax rate in relation to the municipal rates being charged. This may be determined in various ways, but presently the municipality assesses the market value at a certain point in time and pegs that rate for a period. These rates are intended to be as close to the estimated market value as possible but often differ substantially. Property owners who feel that the municipal value of their property is too high and exceeds market value, usually apply to the municipality to have their municipal value reviewed with a view to reducing their rates. Owners whose municipal values are well below estimated market value usually remain silent and enjoy the benefit of the municipal rate discount.

 

Q: What is the bank valuation of the property in relation to the market valuation?

A:  A mortgage lender or banker who provides property finance against the security of property will usually seek a very conservative market valuation.  In other words, a banker would like to know the net price if they had to sell a property in a hurry, i.e. to realise their security. So, accounting for agents’ commission and a slightly lower price to encourage a quick sale, one could expect a banker to base a lending value of approximately 80% of market value in a stable property environment.

Author:  Mike Addison

Addsure is a leading sectional title insurance broker. Get fit and proper advice from advisors who understand sectional title.