In CRE appraisal, which statement best describes the difference between the income capitalization approach and the cost approach?

• A. Income capitalization uses NOI and cap rate, while the cost approach estimates value based on replacement cost less depreciation.
• B. Income capitalization estimates value based on replacement cost; the cost approach uses net operating income and cap rate.
• C. The income approach relies on the sale comparison data, while the cost approach uses market rents.
• D. The income approach ignores depreciation, while the cost approach includes it.

Answer: (A)

In commercial real estate appraisal, the main distinction is how value is derived: the income capitalization approach converts expected income into value, while the cost approach builds value from the cost to reproduce the property (minus depreciation).

The correct description matches this: the income capitalization approach estimates value based on the property's ability to generate income, using net operating income and a capitalization rate. Value is essentially NOI divided by the cap rate, reflecting the return an investor would seek from the income stream. The cost approach, by contrast, estimates value from the cost to reproduce the improvements today, subtracting depreciation for wear and obsolescence, and then adding land value. This captures what it would cost to recreate the property rather than what it earns.

Why the other statements don’t fit: swapping the roles—saying the income approach relies on replacement cost and the cost approach uses NOI and cap rate—misstates which method uses which inputs. At least in standard practice, replacement cost is tied to the cost approach, not the income approach. Saying the income approach relies on sale comparison data confuses it with the sales comparison (market) approach. Finally, while depreciation is a key feature of the cost approach, saying the income approach ignores depreciation oversimplifies; the income approach focuses on cash flow (NOI) rather than on depreciation, which is handled differently in the cost approach.