Market Failure and Other Real Estate Impairments

This heading concerns the entity type Real Estate Impairment, which involves the entire property, rather than a fractional interest in the property. In this case, it’s the real estate itself that faces limitations on ownership’s ability to exercise control and/or sell because of temporary conditions that impair its marketability. These are usually external, like constrained (or no) market activity because of adverse economic conditions, temporary regulatory problems, site contamination, etc.

The defining characteristic is an inability to find market transactions that have the same highest & best use as the subject. Such transactions will have occurred in the past, before the condition causing impairment happened, and transactions are expected to resume after the market or property recovers from the condition.

Thus, in each situation we have before-impairment transactions from which we should be able to project values to a future recovered (after-impairment) market. This generates a hypothetical value where it crosses the date of value—as if it were unimpaired.

While the impairment persists, the property owner has reduced control of the property (especially when the condition is external), and the owner cannot sell to recover full value until the end of the impairment period. These circumstances strongly resemble restrictions that occur due to ownership structures; the sources are different, but control and marketability are affected just the same.

Many types of impairments persist for only a few years, if that. But delays in the ability to exercise real estate rights are costly, sometimes very much so. Yes, the extent of the delay can be difficult to predict, and obviously the conclusion will be less reliable than if you had a lot of contemporaneous transactions with an authentically similar highest & best use. Does that really matter? This method addresses material elements affecting value, and is one more useful tool for getting at value that is otherwise hard to find.

Conditions are so varied that we do not have as clear and extensive a list of ‘the right questions to ask’ as those that appear on your dashboard for fractional positions. Instead, each section has some guiding comments below the Advanced tab.