Property Valuation

It is mandatory in 99% of all real estate transactions to have completed a determination of value on the subject property.  The only time that property values are not considered is on VA home loan refinances, typically referred to as a “streamline.”  Streamline refinancing options are the exception and account for a very small percentage of all real estate financing transaction.  Therefore, property valuations become an integral part of the financing process. 

Value will be determined by a third party expert known as an appraiser.   To be considered an appraiser, an individual must be certified and approved by the state in which they conduct business.  The certification process can be difficult and demanding, normally requiring potential appraisers to complete at least 120 hours of mandatory classroom education.  Once the course work has been completed, they will need to be certified by the state, which involves completing the state’s mandatory examination requirements.  It does not stop here: many new appraisers will also be required to work in an apprenticeship status until they have successfully completed the number of appraisals deemed acceptable by the state. It certainly seems like appraisers are put to the test, but, consequently, will develop the qualifications crucial to correctly value the subject property.

During the home loan process the appraisal will be ordered.  Most lenders will require an upfront payment for the appraisal prior to when it is ordered.  The normal fee to determine property value by an appraiser varies, but should range between $350 and $450.  Once the appraisal has been ordered the appraiser will contact you or the real estate agent to arrange a time to meet at the subject property.  A few days later the appraiser will release a report know as the Uniform Residential Appraisal Report; value for the property will be listed inside.

There are several distinct ways to determine Market Value.  However, in a real estate transaction the Market Value will almost always be used.  There are, however, a few exceptions; foreclosure value, distressed sale value, and investment value are other acceptable determinations for value used in a real estate transaction.  Presently, we will only focus on Market Value, because, to be perfectly honest, this will be the value lenders use to determine your approved loan amounts.  Market value is defined as the value for real estate property stated as an opinion from a certified expert, generally known as an appraiser.  The opinion of value will be based on the assumed sold price of the property in today’s real estate market. 

In order to establish the market value for the subject property, the appraiser will use an array of appraisal approaches.  The most common approaches used to assess value are the following: Income capitalization approach, Cost approach, and sales comparison approach.   Each approach can support certain benefits, to determine value that the other approaches do not support.  The Uniform Residential Appraisal Report will give the appraiser an opportunity to utilize one or all of these accepted value approaches.  Although all three value approaches can be used, appraisers tend to focus their attention primarily on the Cost Approach and the Sales Comparison Approach.

The Cost Approach utilizes a value-based strategy, which involves the actual cost of replacement, plus the value of land, minus the depreciated value of any improvements.  This may appear complicated, but the value-based assessment used under the cost approach is one of the most effortless value estimators used to determine market value on the subject property. 

Here is how the Cost Approach works: the estimated value of the land is used as a starting point to determine final Market Value; normally, the county assessor’s value for the land is used.  The next step will be to estimate the actual replacement cost of the home.  The appraiser will ascertain this by assessing a square foot price, as determined by the area in which the home resides.  The square foot price will then be multiplied by the total finished square feet for the home.  Unfinished areas in the home will be assessed in a similar manner, but it goes without saying that the square foot value will be lower.  These items are all calculated together to secure the total estimated replacement value for a new structure.  The current home will not be considered a new structure, so some depreciation will need to be considered and deducted from the total.

Depreciation will be decided by the age and condition of the property.  Once the value for depreciation is determined, it will immediately be subtracted from the calculated new structure value, which will place the actual Market Value within reach.  At this point we are almost finished with the Cost Approach.  The last step is to append in any actual site improvements.  These improvements may include custom work, above average fixtures, and anything else that will add value to the property.  The final market value will be determined after the site improvements have been added; this will give the appraiser the Market Value, as determined by the Cost Approach.

The Sales Comparison Approach conceivably makes the most common sense to people unfamiliar with the property valuation process.  This approach will use information from actual homes sold in your area to help determine a fair market value for the subject property.  The other homes listed with the subject property on the Uniform Residential Appraisal Report are formally known as “comparables.”  Two widely used conditions must be met in order to be considered a good comparable home.  First, the home involved as a comparable will need to be within one mile of the actual subject property; second, the home will need to have a sales date within the last six months.  If the appraiser deviates from these parameters, the finalized appraisal report may be subjected to an internal audit process. 

The Sales Comparison Approach lists the subject property with four to five comparable properties, side by side.  The comparable properties will be used to show actual homes that have been recently sold.  These homes will be analyzed with the subject property to determine a starting Market Value.  The starting Market Value will then be increased or decreased, depending on the differences found between these homes.  The most widely compared differences between a subject property and a list of comparable properties include financing concessions, square footage size, finished living areas, amenities, and current condition ratings listed for the comparables.  For all practical purposes the subject property will increase or decrease in value as it is brought in line with the comparable properties.  Once the adjustments are made the sales comparison approach will list a completed value. 

After completing both of these value approach techniques, the appraiser will compare the two value approaches together to help decide their final opinion of what the Market Value should be.  It is important to remember that the opinion stated by the appraiser for the current Market Value will be based solely on what the perceived sold price of the property would be in today’s real estate market.