Highest and best use is defined as the reasonable, probable, and legal use of vacant land or improved land which is physically possible, financially feasible, and results in the highest value.
Property appraisers use highest and best use analysis as a tool to help determine what approaches to value to apply in calculating the fair market value of properties.
Highest and best use can also be used as an effective market analysis by filtering out business concepts or ideas that don’t make sense from a legal, physical, or fiscal standpoint.
Legally permissible means a use complies with zoning regulations, building codes, environmental regulations, and other applicable ordinances.
For example, reclaim may be required. There may be sign restrictions, noise ordinances, and easements to comply with. There may also be private restrictions that run with the land and are passed from owner to owner.
These are usually imposed by the developer of the tract who attempts to preserve the value of the entire development by restricting what can be done with individual lots.
If the use is not legally permitted, there should be a high degree of certainty that it can be changed or the property may not be suitable for the proposed use.
The proposed use must be physically possible. For example, the property for a conveyor car wash should be a regularly shaped rectangle with the length proportionately longer than the width. The site should have access to traffic in both directions. The lot should be at-grade with the highway. Public utilities should be available at the site. And so forth.
If a use is limited by size, frontage, access, or other factors, it may not be suitable for the proposed use.
The next test is financial feasibility.
Feasible or commercially viable means the use must generate sufficient revenue to justify the costs of acquisition and development plus a profit for the developer. For example, if a property is zoned community commercial, the approved land uses for such properties may include retail, food services, offices, and entertainment.
Since market demand acts to create the highest and best use, the demand for each alternative use should be considered. The use that provides the highest net return to the developer is the highest and best use.
Last is a test for maximum return, which means the most profitable use among all physically possible, legally permitted, and financially feasible uses.
Here, the most profitable use is the one that produces the highest residual land value consistent with market risk and rate of return warranted by the market for that use.
If the land is vacant, rates of return can be used to capitalize income from different uses into their respective values.
Highest and Best Use Analysis
Does my concept make sense from a physical standpoint? If the use is not limited by physical characteristics of the site, soil conditions, climate, then the answer may be yes.
Does my concept make sense from a legal standpoint? If entitlements can be obtained in an economic and timely manner, then the answer may be yes.
Does my concept make sense from a fiscal standpoint? If the benefits are sufficiently greater than the cost, then the answer may be yes.
Is my concept the most profitable among all possible uses?
If the use is expected to produce a rate of return consistent with market risk, then the answer may be yes.
If a proposed use meets all tests, we could conclude it is the highest and best use and makes sense from a physical, legal, and fiscal standpoint.