Happy October! We hope you are enjoying the beginning days of Fall.
Today, we will continue the topic of real estate valuation from last month.
Real Estate Valuation Part II
When a real estate agent performs a home valuation, it is called a Comparative Market Analysis (CMA) or a Broker’s Pricing Opinion (BPO). It’s usually done for one of two different reasons. The first is when a buyer wants to know if the listing price of a home is fair. A Buyer’s Agent will look at what similar homes have sold for in the neighborhood to answer that question. It is fairly straight forward and not very detailed. The second is when a seller wants to know what their home will sell for. This is the more difficult and skill-based assessment because it is a forward looking forecast. A stock analyst can tell you how a stock has performed in the past, but to predict how a stock will perform in the future is clearly the more difficult task. To forecast what a home will fetch in a given market combines the “art” and “science” of pricing. This predictive process contains both objective components and subjective assumptions. The experience and skill of the agent making the prediction as well as the quality and accuracy of the prediction itself are important factors that contribute to the success or failure of a home listing.
The CMA and BPO valuations are not official appraisals. Only the valuation of a licensed real estate appraiser can be called an appraisal. We hold high respect for real estate appraisers. Their training and expertise related to home valuations are vastly superior to an average agent. Our function and approach differ in that:
(1) When real estate agents perform home valuations, the customer is the seller. Our objective is to determine the “market price” of a particular home. By “market price,” we are referring to the price that a home can achieve in an open market exposed to all potential buyers. This valuation incorporates an intimate understanding of buyer behavior in addition to market sales data interpretation.
(2) In a mortgage appraisal, the appraiser’s customer is the bank. The appraiser determines the “collateral value” of a home based on an established set of rules. A mortgage appraisal is reviewed and scrutinized by loan underwriters before it’s accepted by the bank. The bank simply wants to know if the home has sufficient value to act as the collateral for the loan.
In the majority of cases, our valuation and the appraisal are in agreement. We list a home at our projected market price, we achieve a contract at or near that price, and the subsequent bank appraisal supports the price and approves the loan. The transaction closes smoothly and successfully.
However, sometimes the appraisal comes back below the contract price. This usually puts the transaction in jeopardy. The appraisal can come back low for a number of reasons. Often, the difference is due to the appraisal rules. For example, would you pay more for a home that has a brand new roof and A/C system, so you wouldn’t have to worry about them in the next 15 years? Would you pay more for a home whose kitchen is equipped with gorgeous top-of-the-line premium appliances? We would. Those features have added value to us as buyers. However, the bank does not see these features as having value because by the time the bank forecloses and takes back a home, those upgraded features could be gone. This is why sometimes a highly upgraded home has problems with appraisal.
We will stop here. In the next issue, we will talk about what happens when an appraisal comes back lower or higher than market value!
Until then, take care! We look forward to seeing you next month!