Reconciliation and Final Value Opinion

Chapter: Reconciliation and Final Value Opinion

Introduction

This chapter delves into the critical process of reconciliation and forming a final value opinion in appraisal, an area particularly vital for residential properties under the Uniform Residential Appraisal Report (URAR) framework, as emphasized in our course. This stage integrates the diverse value indications derived from sales comparison, cost, and income approaches (where applicable), aligning with the course’s focus on mastering these methods. It ensures that the appraisal report reflects a well-reasoned, defensible, and compliant final value, essential for upholding professional credibility❓ and navigating critical reviews, as stressed in the book content.

I. The Nature of Reconciliation

• Definition: Reconciliation is the process of critically analyzing and weighing the value indications resulting from two or more appraisal approaches to arrive at a single, supportable value opinion. This process is fundamentally about judgment, not simply averaging.
• Scientific Basis:
  • Decision Theory: Reconciliation leverages decision theory, where appraisers act as Bayesian decision-makers, updating their prior beliefs about value based on new evidence. Each valuation approach provides an indicator that adjusts the appraiser’s initial estimate. The weight given to each indicator is determined by its perceived reliability and relevance.
  • Statistical Inference: While not a mathematical average, reconciliation implicitly involves statistical inference. The appraiser is attempting to infer the ‘true’ market value from a set of imperfect measurements (the value indications).
• URAR Context: The “Reconciliation” section on Page 2 of the URAR provides space for the appraiser to: (1) report the values from the Sales Comparison Approach and the Cost and Income Approaches (if developed); (2) the appraiser is to indicate if the subject is appraised “as is,” “subject to repairs or alterations based on a hypothetical condition,” “and “subject to inspection based on an extraordinary assumption.” When utilizing a hypothetical condition or an extraordinary assumption, the effect on value must be spelled out to the client in an addendum and (3) the appraiser provides the market value and the effective date of value.

II. Principles Guiding Reconciliation

• A. No Mechanical Averaging: As stated in the book content, mathematical averaging is inappropriate. Instead, appraisers must apply judgment and experience to assign weights based on the credibility and relevance of each approach.
• B. Comprehensive Data Review: As indicated in the book content, the process necessitates a review of all data, calculations, and reasoning behind each value indicator. This includes:
  1. Calculation Verification: All calculations must be rigorously checked for accuracy. Formula:
     Value = Σ (Adjusted Sales Prices) / n where the mathematical process, and its result, must be accurate.
  2. Consistency of Techniques: Appraisal techniques should be consistently applied across the subject property and all comparables.
  3. Reliability Assessment: A critical evaluation of the reliability of each value indicator, based on the principles discussed later in this chapter.
  4. Data Sufficiency: Confirmation that all pertinent data have been included and thoroughly analyzed.
  5. Compliance with Assignment Terms: Ensuring that all value indicators are derived in accordance with the precise terms of the appraisal assignment.
• C. Reliability of Value Indicators: The reliability of a value indicator depends on the amount, accuracy, and relevance of its supporting data, as discussed in the book.
  1. Amount of Data: As noted in the book content, value indicators are more reliable when based on larger statistical samples, more detailed data, or support from independent sources.
     • Example: A sales comparison approach based on ten verified comparable sales will typically be more reliable than one based on only three, assuming all other factors are equal.
  2. Accuracy of Data: Depends on how well the supporting data has been verified and the accuracy of the technique used to derive the indicator.
     • Example: Sales data verified directly with the buyer and seller is more accurate than relying solely on MLS data.
  3. Relevance of Value Indicator: Is heavily influenced by its consistency with the appraisal assignment terms and the appropriateness of the technique used.
     • Example: The Income Approach is generally less relevant in appraising a single-family residence, as highlighted in the book content.

III. The Process of Reconciliation: A Detailed Breakdown

• A. Re-evaluating the Approaches:

  1. Sales Comparison: The most commonly used approach for residential properties. However, its reliability hinges on the availability of truly comparable sales and the accuracy of adjustments.
     • Experiment: Analyze two sets of comparable sales for the same property – one with minimal adjustments and one requiring significant adjustments. Compare the resulting value indications and assess which provides a more credible result.
  2. Cost Approach: Primarily used to estimate the value of newer or unique properties where comparable sales are scarce. Its accuracy depends on precise cost data and accurate depreciation estimates.
     • Example: Use a cost estimation service to calculate the replacement cost of a subject property. Then, research local market data to estimate depreciation. Finally, compare this value indication to the Sales Comparison Approach.
  3. Income Approach: Applicable for income-producing residential properties. However, in many cases, particularly for single-family homes, it is deemed less relevant due to a lack of reliable rental income data and because single-family homes are typically purchased for owner occupancy.
     • Calculation: If the subject property is a rental, estimate market rent and operating expenses. Capitalize the net operating income to derive a value indication. Value = NOI / Capitalization Rate

• B. Weighting Value Indicators:

  1. Sales Comparison Approach Weight: Generally given the most weight for residential properties when sufficient and reliable comparables are available. Factors to consider:
     • Number of comparable sales
     • Similarity to the subject
     • Timeliness of the sales
     • Degree of adjustments required
  2. Cost Approach Weight: More weight may be given when appraising new construction or properties with unique features. Factors to consider:
     • Accuracy of cost data
     • Reliability of depreciation estimates
     • Relevance to market value
  3. Income Approach Weight: Generally less weight for single-family residences unless there is a history of the property being rented with reliable rental income data. Factors to consider:
     • Quality of rental data
     • Stabilized Net Operating Income (NOI)
     • Appropriateness of the capitalization rate.

IV. Statement of Final Value Opinion

• A. Point Estimate vs. Range Value:

  1. Point Estimate: The traditional approach, stating a single dollar amount as the appraiser’s opinion of value.
  2. Range Value: An alternative, expressing the appraiser’s opinion as a range within which the property’s value is most likely to fall. This approach acknowledges the inherent uncertainty in valuation.
     • Example: Instead of stating a value of \$350,000, the appraiser might provide a range of \$340,000 to \$360,000.

• B. Documentation and Justification: As stated in the book content, the chosen value must be demonstrably supported by the evidence presented in the appraisal report.

  1. Clear Explanation: The appraiser must clearly explain the reasoning behind the assigned weights and why the final value opinion is credible and reliable.
  2. Address All Data: All data considered, including any discarded approaches, should be discussed and justified.
  3. Hypothetical Scenarios: Should the appraisal rely on hypothetical conditions (subject to repairs), their potential impact on value must be detailed.
     • Example: “The opinion of value is based on the hypothetical condition that the necessary roof repairs will be completed. If the repairs are not completed, the market value would likely decrease by X amount.”

• C. Review for Clarity: As the book content suggests, the final report should be easy to understand, even for a non-appraiser. This includes:

  1. Plain Language: Using clear, concise language and avoiding overly technical jargon.
  2. Logical Flow: Presenting information in a logical and organized manner.
  3. Comprehensive Summary: Providing a summary that highlights the key factors influencing the final value opinion.

• D. Errors and Omissions Insurance: As noted in the book content, you need to have ERRORS AND OMISSIONS INSURANCE, which covers liability for mistakes and information that was not provided but should have been.
  Be aware that these carriers only cover Errors and Omissions, not Errors of Commission (as in committing a crime). Error means mistake not intentional misrepresentation.

V. Compliance and Ethical Considerations

• A. USPAP Adherence: Ensuring full compliance with USPAP is paramount. This includes the Ethics Rule, Competency Rule, and Scope of Work Rule.
• B. FIRREA and Regulatory Compliance: Confirming adherence to all applicable state and federal regulations, including those mandated by the Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA).
• C. Transparency and Disclosure: Maintaining complete transparency in the reconciliation process and fully disclosing any assumptions or limiting conditions that affect the final value opinion.
• D. Appraiser’s Certification: Confirming, as required by the URAR, that the appraiser has conducted a personal inspection of the subject property, the statements of fact contained in the report are true, the appraiser’s compensation is not contingent on reporting a predetermined value.

Conclusion

Mastering the reconciliation process and forming a well-supported final value opinion is a cornerstone of effective appraisal reporting. By understanding the principles of reconciliation, applying sound judgment, and adhering to industry standards and regulations, appraisers can produce credible and defensible reports that instill confidence and enhance their professional credibility. This ensures that the appraisal report not only meets the needs of the client but also withstands the scrutiny of critical review, which is the final test for a credible and reliable appraisal.