Real Estate Appraisal Practice Exam

What is the name of the capitalization method that converts a single year's expected income into a market value?

1. Yield capitalization

2. Direct capitalization

3. Income approach

4. Market approach

The correct answer is: Direct capitalization

The capitalization method that converts a single year's expected income into a market value is known as direct capitalization. This approach involves taking the anticipated income produced by a property and applying a capitalization rate to derive its value. Essentially, direct capitalization simplifies the valuation process by focusing on the income expected for a specific year, assuming that this income stream is representative of the property's ongoing earning potential. By using direct capitalization, appraisers can quickly estimate a property's market value without needing to project cash flows over multiple years, which can introduce additional complexity. This technique is particularly useful for properties with stable and predictable income, making it a favored approach in real estate appraisal. In contrast, yield capitalization, the income approach, and the market approach involve different methodologies and assumptions. Yield capitalization typically assesses the present value of future cash flows over several years rather than focusing on a single year's income. The income approach is broader and includes various methods to evaluate the income potential of real estate, whereas the market approach relies on comparable sales data rather than direct calculations from income streams.