Property Appraisal Adjustment: Aspects You Must Factor In
A precise comparable sale is very hard to find, since no two properties can be fully similar. While we are not talking about the uniqueness of a genetic code here, there still is hardly a chance for two properties to completely replicate each other. Why I am saying all this? In all honesty, it’s to introduce the need for a property appraiser and his many methods of adjustments. Is your curiosity piqued? Fair chance it is!
So allow me to elaborate on the subject and really surprise you with some of the lesser-known facts of property appraisal adjustments.
Appraisal of property value- Method
It is befitting to begin the article where it must. So let us talk about how appraisal adjustments are done. First thing to take note of: there are no ground rules, any given home appraiser worth his salt has a few tricks up his sleeve, and these tricks have been successfully passed down from generation to generation.
Property appraisal- the subject and the comparable
When comparing two houses–the one being appraised (subject) and the one with which the price is being compared (comp)–certain factors need to be always kept in mind.
- For urbanised or suburban neighbourhoods, the distance between the subject and the comp must not be more than a mile.
- The square footage gap between the two houses must not be any more than 20%. We are talking about above-the-ground square footage and not the basement square footage.
- Difference in age of the subject and the comp must not exceed 10 years. For instance, if a house is 25 years old, the other must not be older than 35 years or younger than 15 years. An exception would be when the subject or the comp is more than 50 years old. In such cases, the gap may be spread further apart. Reasoning: for real estate evaluation, a 60-year-old and an 80-year-old property are taken to be in almost similar condition.
- Properties of similar nature must only be compared. I know I mentioned two properties cannot be entirely similar but it is crucial that the comps must be of the same type. For instance, you cannot compare a townhouse with an apartment unit and a detached dwelling with a duplex even if their age, square footage and sale date are the same.
- The gap between the number of bedrooms/bathrooms must not exceed one.
- The date of sale must not be spread any further apart than 6 months. This said, lending institutions are often sterner and they would want comparables to be placed within 3 months to each other when it comes to the date of sale.
- The style of subject and comp must be identical. Ranch weds ranch, two-storey weds 2 storey.
Appraisal adjustments made to the comparable home as a rule of thumb
While making comparisons, the first point for a property appraiser to remember is that adjustments are always made to the comparable property and not the subject. A positive or negative is marked against it as needed. For example, let us suppose the subject is 1,000 square feet in area (above ground) and the comp is 1,200 square feet in area (case 1) and 800 square feet in area (case 2).
Let us further suppose that keeping the neighbourhood in mind, the home appraiser assumes an adjustment figure of $40 per square foot.
Why are we discussing this? To show that the adjustments are made to the comp and not the subject. In the first case, the comp is 200 square feet bigger in area than the subject and in the second case it is 200 square feet smaller than the subject. So, in the first case, the adjustment will be -8,000 (minus 8,000) and in the latter case, the adjustment will be 8,000.
It is very simple to understand this line of reasoning. A minus sign is used each time the comp home is found superior to the subject. If the comp is much superior, all the accumulated minuses are reduced from the price of the sale price of the comp home and the appraised price of the subject is arrived at.
Property report- An example of property appraisal adjustment
Let me show you through a further example:
Let us suppose that the price of a comparable home is 180,000. Let the table below present other facts.
|Above Grade Square Feet
|8,000 ($40 per square feet)
The above example neatly shows that based on the gap between prices of different sub-sets and adjusting the pluses and minuses, the final price of the subject comes to 183,000. This is 3,000 more than the price of the comp.
Property valuation- who decides the value of adjustment?
I am sure you have a question in mind: everything looks great but who decides that the difference between square footage is to be measured at $40 per square foot or that the difference between number of baths is to be appraised at 2,500 per bath?
Very reasonable question and it’s good that you asked! Unfortunately, there is no rule of thumb by which I can answer it. It depends upon the knowledge, wealth of information, rationale and capacity of judgment of the home appraiser. Honestly, however, the property appraisal depends a lot upon the market condition and neighbourhood in question.
Cost and value are two very different things
While I am on the subject, let me also bust a myth here. Buyers do not pay for the cost of the feature when they purchase a home. In other words, cost and value are two very different things. To illustrate: an addition may cost you $15,000 but it may not increase a home’s value by $15,000. If you pay $30,000 to construct a built-in pool, you cannot expect your home’s value to be appraised $30,000 higher by the adjustment professional.
House valuation- one-size-fits-all just does not work
Now that the myth is debunked, it is time to turn our attention to one of the follies commonly committed by home appraisers. Sometimes, they tend to use the one-size-fits-all method and this is where they err big-time. There are two cases which need to be highlighted: Case 1) Different neighbourhoods pay differently for extra space and Case 2) The ratio between the square foot cost of carpet area and extra space may be very different for two neighbourhoods. Let me give one simple instance for both.
Illustration corresponding to Case 1: Neighbourhood A may be high-end and make adjustments close to $120 per square foot for extra space whereas neighbourhood B may be medium-end and make adjustments near $70 for per square foot of extra space. Surely then, it would be faulty if a home appraiser uses A and B as subject and comp for his appraisal adjustment!
Illustration corresponding to case 2: Neighbourhood A may be selling at $150 per square foot (carpet area) and making adjustments of $120 per square foot of extra space. Here, the ratio is 150:120 or 5:4 (80%). Neighbourhood B, on the other hand, may be selling at $70 per square foot (carpet area) and making adjustments close to $63 for extra space. This will mean a ratio of 70:63 or 10:9 or 90%.
It is not hard to decipher that a home appraisal adjustment must be made by keeping in mind how a variable can hurt comparison.
An appraisal trivia
Here is a bit of trivia that may really surprise you:
We know that there is a gap in the cost per square foot of extra space between low-end and high-end neighbourhoods. However, did you know that this gap spreads farther when the market comes down, or comes closer when the market picks up?
Assess at least three comparable properties
Ideally, appraisers should use a formidable data sample set of at least three comparables. Only then can they be reassured that the adjustments they make will hold water.
Small homes can upstage the big ones
Let me wrap up this piece with one more very surprising fact: Sometimes, smaller homes fetch bigger prices than larger homes (I mean even when the neighbourhood, age, and condition are similar). You never know when smaller homes start carrying a value premium for themselves.
How are custom houses with no comparables appraised?
And because the question is playing big on your mind, let me answer this one, too: what if a custom home which has no comparables to go by needs to be appraised? This may be a bit difficult, but seasoned home appraisers can do it just the same.
Through experience, they need to first make out what feature holds exactly what value. For instance, what could an alcove for a bookshelf, a wine cellar, or a movie theatre be adjusted at? Remember, we have discussed that there is a difference between cost and value. Moreover, square footage is important. Also, the appraiser needs to find out the reason for the lack of comparables. Market condition, dear readers, will also need to be factored in.
So you see, there is quite a lot that works on the mind of a property appraiser. When you get a grip of all these things, it just prepares you better. For instance, it is nice to know that cost and value are not the same thing. It is good to understand, too, which additions bring in greater appraisals (and which lesser). Here is hoping that the article answered some of your long-held queries, debunked certain false notions, and encouraged you to look deeper into property appraisal.