Sales Comparison Approach: Data Collection & Adjustments

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Chapter: Sales Comparison Approach: Data Collection & Adjustments

I. Introduction: The Cornerstone of Market Valuation

The Sales Comparison Approach (SCA), also known as the Market Approach or Market Data Approach, is a fundamental valuation technique predicated on the economic principle of substitution. This principle asserts that a rational buyer will pay no more for a property than the cost of acquiring an equally desirable substitute in the open market. In practice, no two properties are perfectly identical. Therefore, the appraiser must gather robust data and apply systematic adjustments to the sales prices of comparable properties to accurately estimate the value of the subject property. This chapter will delve into the intricacies of the data collection and adjustment processes, providing a scientifically grounded framework for their effective implementation.

II. Data Collection: Building the Foundation for Analysis

A. Defining Data Requirements

Before initiating data collection, the appraiser must clearly define the data needed. This includes:

1.  **General Market Data:**  This encompasses broad economic, social, and governmental forces influencing real estate values in the relevant market area.  Examples:
    *   Interest rates:  These directly impact borrowing costs and affordability.
    *   Unemployment rates:  A <a data-bs-toggle="modal" data-bs-target="#questionModal-329210" role="button" aria-label="Open Question" class="keyword-wrapper question-trigger"><span class="keyword-container">strong</span><span class="flag-trigger">❓</span></a> labor market supports housing demand.
    *   Population growth:  Increased population drives housing needs.
    *   Zoning regulations:  These constrain land use and development potential.

2.  **Specific Property Data:** This encompasses the unique characteristics of the subject property and potential comparables.  This includes:
    *   **Location:** Addresses, legal descriptions, neighborhood amenities, access to transportation, school districts.  Quantifiable measures, like distance to nearest school, can be valuable.
    *   **Physical Characteristics:**  Lot size, building square footage, number of bedrooms/bathrooms, architectural style, age, condition, landscaping, views.
    *   **Legal Rights & Restrictions:** Fee simple, leasehold, easements, deed restrictions, mineral rights.  These affect the bundle of rights being transferred.
    *   **Sales Information:** Sale price, date of sale, financing terms, conditions of sale (arm’s length transaction?).

B. Identifying Comparable Properties (Comps)

The selection of truly “comparable” properties is paramount to the SCA’s success. Comps should possess the following characteristics:

1.  **Similarity:** Should be physically similar to the subject property regarding key value-driving attributes (size, age, style, features).
2.  **Market Relevance:** Should appeal to the same type of buyer in the market as the subject property.
3.  **Proximity:** Should be located in the same or a similar market area (neighborhood, submarket). Location affects values.
4.  **Recency:** Should have been sold recently (typically within 6-12 months, but less if there's market volatility) to minimize the need for significant market condition adjustments.

C. Data Sources & Verification

Reliable data sources are crucial. Common sources include:

1.  **Multiple Listing Services (MLS):**  A primary source for sales data, but requires careful verification.
2.  **Public Records (County Recorder, Assessor):** Official sources for deeds, property tax information, and legal descriptions.
3.  **Real Estate Professionals (Brokers, Agents):** Can provide market insights, but data must be independently verified.
4.  **Appraisal Data Services (e.g., CoreLogic, FNC):**  Provide aggregated sales data and analytical tools.
5.  **Interviews:**  Directly contacting buyers, sellers, or real estate agents involved in comparable sales to obtain information not readily available.

Data verification is critical to ensure accuracy. Cross-reference data from multiple sources whenever possible. Physical inspection of comparable properties is ideal, but not always feasible. If inspection is not possible, use street-view imagery (Google Maps) to verify property characteristics.

III. The Adjustment Process: Isolating Value Differences

A. The Add/Subtract Paradigm

The adjustment process revolves around the principle that adjustments are ALWAYS made to the comparable property’s sale price, not to the subject property’s characteristics. Think of the question as “What would the comp have sold for if it had the feature (or lack thereof) of the subject?”

• Comparable Superior: If a comparable property has a feature that the subject property lacks and that feature increases value, you must SUBTRACT from the comparable’s sale price.

• Comparable Inferior: If a comparable property lacks a feature that the subject property has and that feature increases value, you must ADD to the comparable’s sale price.

This add/subtract method aims to create the equivalent price that the comparable would have sold for had it matched the subject’s characteristics exactly.

B. Types of Adjustments

The adjustment process involves systematically accounting for differences between the comparable properties and the subject property. Common adjustment categories include:

1. Property Rights Conveyed: Adjustments are necessary if the bundle of rights transferred differed.
   * Example: The subject property is sold in fee simple, while the comparable sale included a leased solar panel system, reducing the fee simple rights. A subtraction would be needed for the economic impact of the lease on the solar panel system for the comp.
2. Financing Terms: Unusual or creative financing terms can inflate or deflate sales prices.
   • Theory: Buyers are often willing to pay more if they can obtain below-market interest rates or minimal down payments. This is called “cheap money”. This also affects what buyers are willing to offer to the seller.
   • Adjustment: If a comparable property benefited from seller financing at a below-market interest rate, subtract an amount reflecting the present value of the financing advantage to make the comparable have the same level of financing availability as the subject property.
   • Equation (Approximate): Adjustment = (Mortgage Amount * Difference in Interest Rate * Loan Term) (This would be a simplified calculation and professional investment calculators are needed for this activity)
3. Conditions of Sale: Adjustments are required to account for any undue influences, such as forced sales, sales between related parties (non-arm’s length), or any unusual motivations of the buyer or seller.
   • Theory: Market Value assumes a willing buyer and a willing seller acting without duress or undue influence.
   • Adjustment: If a comparable sale was a foreclosure (seller under duress), determine the market discount associated with foreclosures in the area, and add this amount to the comparable’s sale price. This can be measured in a scientific fashion by reviewing the sale prices of foreclosure versus non-foreclosure sale prices of homes sold during that same time frame to come to a calculated discount amount.
4. Expenditures Made Immediately After Sale (EMAS): Expenses incurred by the buyer immediately after the sale, which influenced the purchase price, need adjustment.
   • Theory: Buyers can influence the selling party by negotiating that they will be making these upgrades immediately after sale. In other words, the sale price reflected the need for repairs.
   • Adjustment: An EMAS would be items such as renovations, repairs, legal fees that have an effect on the amount the buyer initially offered for the home. Add the amount the buyer spent making repairs/upgrades to bring the comp on the same level as the subject property.
   • Example: A buyer purchases a home with the intent to upgrade the landscaping for $5,000. Then, add the $5,000 to the comps sale price so it matches the landscaping level of the subject property.
5. Market Conditions: Adjustments are made to account for changes in market conditions (supply, demand, price levels) between the date of the comparable sale and the date of the appraisal.
   • Theory: Real estate markets are dynamic. Appraisers must accurately measure value appreciation/depreciation over time.
   • Methodology: Use paired sales analysis❓❓ (comparing sales prices of similar properties sold at different times), repeat sales analysis (tracking the sales prices of the same property over time), or market trend data to determine the percentage or dollar amount of the adjustment.
   • Formula: % Adjustment = ((Sale Price Today - Original Sale Price) / Original Sale Price) * 100
   • Adjustment: If market prices have increased by 5% since the comparable’s sale date, add 5% of the comparable’s sale price to adjust the comp.
6. Location: Adjustments are required to account for locational differences between the comparable property and the subject property. This is the most difficult element to quantify.
   • Theory: Location, location, location!
   • Methodology: Analyzing paired sales data (comparing properties with similar characteristics in different locations) to quantify the value differences associated with location. Direct comparisons of homes sold with similar conditions to measure differences.
   • Adjustments: Subtracted or added depending on the differences measured.
   • Example: A waterfront sale versus a non-waterfront sale. A corner lot home compared to an interior lot in the neighborhood.
7. Physical Characteristics: Adjustments are made to account for differences in the physical attributes of the properties.
   • Lot Size: Quantify the value contribution of additional land area using paired sales analysis.
   • Square Footage: Determine the market value per square foot for living area and adjust the comparable’s sale price based on the square footage difference.
   • Age/Condition: Estimate the cost to cure any deferred maintenance or physical depreciation in the comparable. This is measured through cost manuals and the opinion of trade specialists.
   • Features (e.g., Garage, Fireplace, Pool): Use paired sales to isolate the market value contribution of these features.

C. Order of Adjustments:

The order in which adjustments are applied can impact the final adjusted sale price. A common and logical order is:

1.  **Financing Terms & Conditions of Sale:** These are the most fundamental adjustments, ensuring a cash-equivalent, arm's length transaction.
2.  **Market Conditions:**  Adjust for time-related changes *after* accounting for sale-specific factors.
3.  **Location & Physical Characteristics:**  These are typically applied last, as they reflect property-specific differences.

Applying percentage adjustments before dollar adjustments can be beneficial in reflecting the cumulative impact of multiple factors. However, consistent application of a sound and market-supported methodology is more important than rigid adherence to a specific order.

D. Quantifying Adjustments: The Science of Valuation

Quantifying adjustments requires a combination of market data analysis, statistical techniques, and sound judgment. Key methods include:

1.  **Paired Sales Analysis:** This involves analyzing sales prices of similar properties that differ by only one characteristic. The difference in sales price isolates the value of that characteristic.
    *   **Example:** Two identical houses sell, one with a garage ($250,000) and one without ($240,000). The garage is valued at $10,000 (paired sales analysis).
2.  **Cost Approach (for physical deficiencies):** Estimate the cost to cure physical defects or obsolescence in the comparable. This is a direct measure of what buyers would need to spend to make the comparable more like the subject.
3.  **Statistical Analysis (Regression):** Regression analysis can be used to statistically model the relationship between property characteristics and sales prices, providing a more rigorous approach to adjustment quantification. This involves the use of statistical models such as multiple linear regression to understand the impact of a variety of factors. It is beyond the scope of basic SCA.

IV. Reconciliation and Value Indication

After applying all relevant adjustments, the appraiser will have several adjusted sales prices from the comparable properties. The final step involves reconciling these adjusted values to arrive at a single, supportable value indication for the subject property.

• Reconciliation is NOT averaging. The appraiser must analyze the relative strengths and weaknesses of each comparable, considering factors such as:

  • Number and magnitude of adjustments: Comps requiring fewer/smaller adjustments are generally more reliable.
  • Similarity to the subject: Comps that are highly similar to the subject property carry more weight.
  • Data reliability: Comps with well-documented and verified data are preferred.

• The appraiser’s professional judgment and market expertise are critical in weighing the relative reliability of each comparable and deriving a final value conclusion that is well-supported and defensible.

V. Practical Application: A Case Study

Subject Property: 3-bedroom, 2-bathroom ranch style house in good condition, 1500 sq ft, built in 1985, located on a 7,500 sq ft lot in Suburbanville, USA.

Comparable Sales:

• Comp 1: 3-bedroom, 2-bathroom ranch style house, 1450 sq ft, built in 1980, located on a 7,000 sq ft lot in Suburbanville. Sold 3 months ago for $300,000.
• Comp 2: 3-bedroom, 2-bathroom ranch style house, 1550 sq ft, built in 1990, located on a 8,000 sq ft lot in a slightly more desirable section of Suburbanville. Sold 6 months ago for $320,000.
• Comp 3: 3-bedroom, 1-bathroom ranch style house, 1500 sq ft, built in 1985, located on a 7,500 sq ft lot in Suburbanville. Sold 9 months ago for $280,000. The seller included new kitchen appliances, with a market value of $4,000 as part of the sale.

Analysis & Adjustments:

• Rationale:

  • Sq.Ft adjustments made due to increased size/value of living space in the properties. Sales prices reflect differences.
  • Location: Comps more difficult to calculate. It’s determined that comp 2’s slight improvement in location has a value associated with the home sale.
  • All market prices reflect appreciation/changes made as values have trended up due to scarcity.

• Reconciliation: Comp 1 and Comp 2 had very few differences from the home, making them more accurate comparable properties. Comp 3 had several differences.
  Conclusion: A final value of $310,750 is derived through weighing the average adjusted sales price for a fair value indication.

VI. Conclusion

The Sales Comparison Approach is a dynamic and analytical process that requires a thorough understanding of market principles, data collection methodologies, and adjustment techniques. By mastering these skills, appraisers can develop credible and defensible value opinions that are essential for informed decision-making in the real estate industry. Always be sure to comply with guidelines for specific applications as defined by Fannie and Freddie.