VALUE THEORY IN REAL ESTATE

The Orlando real estate market has been operating at full swing this summer, with lots of buyers and sellers being active in the marketplace despite the challenges presented by this pandemic.  One of the most popular topics among our neighbors right now is property pricing and appraisal values.  The following is an abbreviated version of what I teach in class for real estate agents, Home Valuation 101.

There are generally 3 approaches to value theory in real estate:  (1) comparable sales, (2) reproduction cost, and (3) income potential.  In residential resale, a comparable sales approach is the method of choice, so that’s what we will focus on today.  Comparable sales uses already closed sales to determine the market value of a property.  Assuming the market is efficient and the buyers and sellers are acting in their own best interest, we can derive value based on how sellers are selling and buyers are buying.  Like stock prices, the supply and demand ultimately drives the fluctuation in price: when demand exceeds supply, the price goes up.  When supply exceeds demand, the price goes down.  Therefore, a home does not have a fixed value and instead changes with time.

Unlike shares of a company’s stock, no two pieces of real estate are exactly alike.  The comparable sales approach takes the available previous sales that meet the right criteria (sufficiently similar to the subject property, sufficiently close to the subject property, and sale date close enough to reflect the current market) and then compares them to the subject property.  Adjustments are then made based on established guidelines as well as any subjective judgments based on experience that may increase or decrease the value.  For example, if a home that backs up to a road sold at a particular price, an otherwise identical home across the street that backs up to a wooded conservation would be presumed to be able to fetch a higher price (the value adjustment for conservation frontage). 

Two crucial factors in making sure the comparable sales method is done correctly are: (1) Selection of appropriate comparable properties. If wrong comparables are used- however diligent the subsequent adjustments may be- the results will likely be off.  For example, Stoneybrook sales should be used as comparables for a Stoneybrook subject property, not an Eastwood or Avalon Park property.  (2) Use right adjustment values. Even when the right comparables are selected, if the adjustment values are inaccurate, the result will still be off.  For example, once comparables similar in size are selected, the adjustment for difference in square footage is not the average price per square foot.  It may only be $30-$60 per square foot based on the price range of the home.

Licensed appraisers are trained to make the above adjustments based on professional guidelines.  These guidelines must be strictly adhered to in order for the appraisal report to be accepted by the bank, which relies on this report to then assess its risk in making the loan on the property.

Real estate agents are not licensed appraisers.  Their approach should start in the same objective manner as an appraiser, but there are many additional factors to consider.  Many features in a home have different values to a buyer than to an appraiser.  For example, top-of-the-line appliances in a kitchen will certainly impress a potential buyer, who may be inclined to pay more for this home than a similar one without them, but an appraiser will not appraise the home higher because of the better appliances.

So, a skilled listing agent considers all the tangible factors such as features and amenities, as well as intangible factors such as benefits and appeal.  They estimate what a normal buyer would be willing to pay based on the current market environment. An understanding of market trends is paramount.  In an up-trending market, the last home that sold in the area is the base floor on price.  During a down-trending market, the last home that sold is the ceiling on price.  In a stable market, the last home that sold is a mirror on price.

We hope the above description is helpful to you. Next month we will discuss the truths and myths about appraisals.  For more details or an evaluation of your home, you can always call or email our team of expert real estate agents.

 

 

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