This is widely used method to find out probable land price that could be offered to land owner on the basis of probable rental income from hypothetical new building. Profitability

of development project is based on probable income receivable from the redeveloped property. Rental rates prevalent in the locality are found out by market survey of instances at rentals and probable expenses are estimated. Capital value of hypothetical building project is worked out as if completed.

From the total capital value of the hypothetical building, estimated cost of construction and other expenses except developer’s profit are deducted and surplus is offered to the property owner. The entire scheme is based on the Investment Theory viz. on the basis of fair rate of returns (Expected rate of return) on invested funds. Developer expects profit as return in ownership scheme. However in Investment Scheme , the investor gets return in form of rental income. Like developer, investor does not expect 15% returns by way of one time payment inform of sale value of flats. Investor expects return in form of regular continued income (rent) from the property for his entrepreneurship of undertaking this building project.

Example :

 An Investor desires to purchase a property by undertaking building project for regular rental income. Relevant details of the property are as under.

Area of plot = 4000 smt Permissible F.S.I. = 1.00. Zoning of plot is commercial. Prevalent rental value for built up area of offices in the locality is Rs 300/smt/month. Property taxes are Rs 80/smt/month. Building construction cost is Rs.8000/smt Expected rate of return on investment is 12%.

Adopt Insurance at ½% of rent, collection and repair and maintenance expenses at 5% of Rent. Calculate land price that could be offered to the land owner by residue method.

Solution :

Total built up area of offices = 4000 smt Annual Receivable income = 4000 x 300 x 12

= 144 lacs per year

Probable Outgoings

Property taxes : 4000 x 80 x 12 = Rs 38.40 lacs  Repairs 5% of Gross Rent = Rs 7.20 lacs

Insurance ½% of Gross Rent = Rs 0.72 lacs

Collection & Mgmt 3% of G.R.    = Rs 4.32 lacs

Collection & Mgmt 3% of G.R.    = Rs 4.32 lacs

Total Outgoings                         = Rs 50.64 lacs

Net Receivable Income per year = Rs 93.36 lacs

Investor desires 12% yield on his investment. Capitalizing net income at 12% in perpetuity, we get capital value of land and building (Total sale price) : =

93.36 lacs x 100/12 = Rs 778 lacs..(a1)

Full rental income is not likely to start atleast for 2 years period. About one year will be required for construction and one year to find all tenants for premises available in building. The value is therefore deferred at 12% for 1 year (1/2 period of commencement of full income).

Net present value = Rs 778 lacs x 0.892

= Rs 693.98 lacs … (a-2)

Expenses for completing project:

1. Building cost : 4000 smt @ Rs 8000/smt = Rs 320 lacs

2. Architects & Consultants fees 3% of cost = 9.6 lacs

3. Advertisement and brokerage 1% of R. = Rs 14.4 lacs

4. Legal and administrative cost 2% of bldg value = Rs 6.4 lacs

Total Expenses      = Rs 350.40 lacs

Net present value = Rs 693.98 lacs

Land price that could be offered = Rs 343.58 lacs

`Say Rs 344 lacs

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