Appreciation
Appreciation is the increase in the value of an asset or an investment over time.
What does appreciation mean?
Appreciation can be a key indicator of economic growth. The term can refer to different types of assets, such as:
- Real estate
- Stocks
- Bonds
- Art and other collectibles
- Precious metals
- Cryptocurrencies
- Machinery and other equipment
The rate of appreciation may also be related to the volatility of an investment, with the potential to yield positive returns.
Several factors can cause asset and property values to appreciate:
- Market trends
- Increased demand
- Reduced supply, inflation
- Economic growth
- An economic downturn
- Other external factors
Appreciation and the real estate market
We often talk about appreciation in terms of the real estate industry. Real estate investment yields positive returns on property value over time and attracts more real estate investors. With an increase in housing prices comes positive home appreciation. Historical trends show that the average home value increases, and tax incentives make home ownership appealing.
Interest rates are a key factor in home appreciation and drive investment property purchases. Low interest rates encourage real estate investors to buy residential properties. The high demand indicates what's called a "seller's market" because there are more potential buyers in the housing market, driving up home prices and their appreciation rate.
Low interest rates increase the popularity of home equity loans among property owners, which fund home improvements beyond home maintenance. Home interior renovations and upgrades, like installing energy-efficient windows in a living space, add to a home's equity. Home improvements also increase home values, contributing to property appreciation.
How does capital gains tax relate to appreciation?
Capital gains tax is calculated based on the difference between the selling price and purchase price of an asset that has increased in value. The tax treatment varies depending on whether the asset is held short-term or long-term. If you’re planning on selling an asset, a tax expert can advise you on whether there are factors that could reduce or defer your tax liability.
1031 exchange
If you own real estate that has appreciated in value and you plan to sell it, you may be able to defer capital gains tax on the sale by reinvesting in a similar property within a specific timeframe. This is known as a 1031 exchange. If you’re interested, consult a tax expert about swapping one property for another to defer capital gains.
Small business loans
Appreciation can lead to an increased value for your business and its assets. If you own land, such as a farm, or if you have a store and own the real estate, your business may benefit from real estate appreciation.
Gaining a handle on the value of your assets over time is important for making informed decisions about how to grow your business. Accurately valuing your equity in assets can significantly affect your business’ balance sheet and your ability to get financing. If assets increase in value, the increased equity value may be considered additional collateral for a loan.
Insurance considerations
If your assets increase in value, they may cost more to insure. So an increase in value is positive, but it may cost you more in insurance premiums.
Frequently asked questions
How do I calculate absolute appreciation?
Appreciation can be calculated by simply subtracting the original value from the current value. That value is called absolute appreciation.
For instance, if your business is worth $1,000 and its original market value was $500, the appreciation is $500.
How do I calculate the annual percentage growth rate?
Subtract the original value from the current value and subtract 1, then multiply by 100 for your percentage.
- ($1,000/$500) - 1 = 1
- 1 x 100 = 100 (an annual appreciation of 100%)