CHAPTER XVI

VALUING LANDS

FOR THE FEDERAL FARM LOAN SYSTEM

The factors of farm appraisals for mortgage loans are traditionally divided into land, buildings, and personal security. For the purpose of analysis one should use this classification and show the relative value of the three chief factors to one another. This will also make clear that the earning power of the farm is the fundamental factor in farm appraisal and that the sale factor is the one next in importance and usually bears a close relation to the net earnings.

It is popularly assumed that the value of the land plus the value of the buildings is the value of the farm, and that for the purpose of making a loan the personal security determines whether the loan should be made conservative or liberal, or possibly rejected entirely to avoid trouble.

This popular assumption that the value of the land plus the value of the buildings is the value of the farm, requires careful analysis by the appraiser before making his recommendations. If a one hundred and sixty acre farm has buildings worth $10,000 and the land is only worth $4,000, the popular assumption places the value of the farm at $14,000. A loan of $4,000 would be the entire value of the land. It would be an exceptional farm which used only for agricultural purposes that would be adequate security for a first mortgage loan up to the entire value of the land. Such land is topheavy with buildings and although the maximum loan

is an under-valuation of the land plus buildings, the appraiser should reduce the amount of his recommendation because the buildings are subject to fire or tornado destruction. In such a case 50 per cent of the value of the land and 20 per cent of the value of the buildings would equal the value of the land and would be too high.

Many trust companies and conservative investment houses do not consider the buildings at all except to determine the conservative or liberal loan made on the basis of the land value. This is due to the great hazard of buildings as compared with the land. If neglected, farm buildings suffer very rapid depreciation even when occupied. Then too, a large per cent of the buildings are covered by insurance for fire only and not for tornadoes. In consequence the relative values of land and buildings must be carefully considered by the appraiser in making his recommendations. The maximum amount that might be loaned under the law must be reduced to an amount consistent with the relative security of the land and buildings when in the proper value relation for business purposes.

The value of a farm, stated in the most general terms, IS THE VALUE OF THE LAND PLUS the Value oF THE BUILDINGS WHEN THE BUILDINGS MEET THE AVERAGE ADEQUATE NEEDS OF THE FARM. The value of the farm plus the value of the buildings is more than the value of the farm when the buildings exceed the average adequate needs of the farm, and less than the value of the farm when the buildings fall below the average adequate needs.

The relation of the first two traditional factors of appraisal should be considered of major importance for the purpose of loans under the long-time amortization plan of the Federal and joint stock land banks.

The relation of the third factor, the personal security is of minor importance. This does not mean, however,

that its importance is insignificant. There is considerable difference between a very conservative and a very liberal loan, and the importance of personal security, as a rule, is that difference.

The earning power of a farm under the management of an applicant for a loan is not always an easy matter to determine. Few farmers keep correct accounts of their business and most of them do not keep any accounts at all. The question arises, therefore, and it is a practical question for the appraiser-is it possible to determine the earning power of the land so that it can be made the chief factor of appraisal? On one hand, to make detailed studies of farm accounts as is done by special research agriculturists is manifestly out of the question; on the other hand, to ignore their earning power or to pass snap judgment on this factor, is contrary to the Federal Farm Loan Act, and to sound practices.

Being thoroughly equipped with scientific methods for determining the production of land for one or more years, the appraiser can acquire skill in observation and questioning so that the time needed for determining the value of this factor will be reduced to a minimum. In many cases it will require only a few extra minutes to determine whether the farm in question goes above or below the average standard of farms in that community. A thorough investigation should be made of a representative farm of the community to check up the average standard of earning power. The relation between the earning power and the selling value should be ascertained. If the earning power is exceptionally high, it is probable that capital will flow freely into that community until the general needs are satisfied. If the earning power is exceptionally low, it is probable that the selling value will be reduced accordingly, for capital will seek the best investments. When there is a great disproportion in

earning power and sales value, it is probable that the factors causing it will be quite apparent to the appraiser. These factors may be social, religious, educational, economic, climatic, scenic, or consideration of health. The appraiser should especially consider the influence the expectation of the usual increase in land values will have on the sales value, and the accredited potential earning power of the land after some addition of brains, capital, and labor. The possibility of soil depletion due either to the quality of the soil or the type of farming should be considered.

The law goes further, and states that the factor of earning power of land for agricultural purposes should be the principal one; it is the principal factor in the mind of every experienced mortgage banker or investor in farm mortgages. Earning power is a fundamental factor in all real estate investments. This is as true of a building in a city as of a farm. The investor wants to know what the property will produce, but the speculator may depend on some other factor for his profit. The investor wants to be sure that the capital invested will produce for a ready market and that it will continue to afford the desired returns? The one who considers only the selling factor may be surprised to find that there is no market for the farm and may be further disappointedly surprised that the earning power is not great enough to make it pay to hold a farm for a possible future market. Dependence on the selling factor, therefore, results in a loss of income of the investment and perhaps a loss of capital in addition. The dependence on the earning power insures an income on the capital invested and at the same time leaves a way open to profit by a sale in case the market is especially good.

The procedure under practical analysis may be simplified somewhat by the following summary:

1. Take the line of least resistance and find the selling value under ordinary market condition;

2. Take the next step in the line of least resistance and make the traditional analysis of valuation of land-on the basis of selling value, buildings, and personal security; 3. Make the fundamental analysis of the earning power of the farm;

4. If there is any difference in the results between the traditional analysis and the scientific analysis of the two foregoing steps, the cause of this difference should be determined whether economic, social, religious, educational, aesthetic, or consideration of health.

The appraiser must reach his final conclusion of valuation. The earning power of land is his fundamental factor and his final valuation will not vary far from it. If the factors causing a variation from the earning power are relatively permanent, then they should be given due consideration in the final valuation. Any variation from the earning power made in the final valuation should be made with great caution, always keeping in mind that the earning power factor is fundamental and that all other factors are secondary. It should be the appraiser's guiding rule to make the basis of his recommendation the lower of the two principal factors, earning power and selling value. Only in exceptional cases should there be any variation from this rule.

Special Features of Land Valuation in the Various Districts

The valuation of land can perhaps be reduced to a science, but like any other science there will always be unmeasurable factors. Each community has its peculiarities, either natural or social. For example, the old home farm of Abraham Lincoln, the estates of George Washington and all landmarks of like historical interest will have always a value that cannot be measured by