Appraisals are a key component to the home purchase or refinance process. Determining home appraisal values is only the end result of the process an appraiser goes through.
What really affects value when it comes to a home appraisal?
I hear the following statement often, “My neighbor’s house is listed for X and mine is bigger, so my house must be worth Y.” Replace X and Y with values that make sense in your neighborhood and you’ve probably heard it too. For this reason, I am going to go over the basics of how a residential appraiser calculates home value.
*The following information is not how commercial properties are valued, but that’s another subject for another blog.
Recent comparable sales are everything
Residential appraisals are based on the three most comparable recent sales(“comps”). More than 3 comps may be used, but typically the three most comparable are given the majority of the weight. A common mistake homeowners make is comparing their home with another that is listed for sale or pending sale, but not actually sold. Just because someone lists a home for $1,000,000, doesn’t mean that someone would pay that amount for it. Pending sales and listed homes may be added to an appraisal report for a little extra support, but they cannot be used as a true comp unless they are closed and ownership has changed hands.
Appraisers usually try to stay within 1 mile for distance and 6 months for age, but this is not always possible. When it isn’t possible, the best available comps are used. In large metropolitan areas, it isn’t very difficult to meet these standards, but in rural or sparsely populated areas, exceptions must be made.
The best available comps
Another common mistake people will make in estimating their own home’s value is ignoring comps that are lower (whether consciously or subconsciously). An appraiser can’t simply ignore comparable sales if they don’t support the purchase price or estimated value for a refinance. They have to take into account any home that is similar to the subject property and use the best available. Its easy to search through recent sales and pick and choose a home here or there that would support a home’s higher value, but the lenders who approve loans have access to the same recent sales information as everyone else. If the best comps are ignored, the lender will choose not to use the appraisal or cut the value, making it all but useless. Appraisers who do this repeatedly will get themselves blacklisted from lenders and will probably be out of business shortly thereafter.
Making adjustments for the differences
Now we know what appraisers generally use to determine value, how do they come up with the exact figure? An appraiser will line up the subject property and the three or four closest comparable sales and then make adjustments for positive and negative attributes. For instance, if the subject property has more square footage than one of the comps, that property will be adjusted downward. Other attributes that may cause increases and decreases in the home comparisons are # of bedrooms, # of bathrooms, lot location, home age, build quality, views, lot size, garage size, upgrades, swimming pools, guest houses, fireplaces and on and on. Many of these items are quantifiable such as number of bedrooms and bathrooms. Others are more subjective like views and lot location. After putting all of these variables together for each comparable property versus the subject property, the appraiser comes up with adjusted values for the comps based on the sales price plus or minus the adjustments. It is then just a matter of looking at the adjusted values and coming up with a final value estimation for the subject property.
Preparing the report
The amount of time spent actually inspecting the property is only a fraction of the overall time required to complete an appraisal report. An appraiser will usually research a property before visiting the site to get a feel for recent sales and the local market. The appraiser will then visit the property to inspect it and take pictures and measurements. After this inspection, the information gathered about the comps is revisited with a better understanding of the subject property and the actual appraisal report is prepared and delivered.
I hope this gives you a better understanding of the residential appraisal process.
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