Certified Pennsylvania Evaluator Practice Exam

Which principle is most relevant to the three approaches of value?

1. Principle of Demand

2. Principle of Cost

3. Principle of Substitution

4. Principle of Conformity

The correct answer is: Principle of Substitution

The principle most relevant to the three approaches of value is the Principle of Substitution. This principle states that a buyer will not pay more for a property than what it would cost to acquire a comparable substitute property. It underpins all three approaches to valuation: the cost approach, the sales comparison approach, and the income approach. In the cost approach, for example, valuing a property involves considering what it would cost to replace or reproduce the property, ensuring the value aligns with market expectations. In the sales comparison approach, the value is determined by comparing the subject property to similar properties that have recently sold, reflecting the idea that alternatives shape value. Meanwhile, the income approach evaluates the present worth of future income generated by the property, with the underlying assumption that a rational investor will compare potential returns with similar investment opportunities available in the market. By emphasizing the role of alternative properties and their impact on market behavior, the Principle of Substitution effectively links the valuation methods together and clarifies how value is derived in real estate contexts.