Buying real estate is not like buying groceries , electronics or other goods and services. Properties don’t have a fixed price tag, and for that matter, they don’t have a fixed value. Like stocks, RE values constantly shift based on what buyers are willing to pay. Yet value and price are not always the same thing in real estate.
Price is what a buyer actually pays and seller willing to accept
Cost is what it would cost to build a replacement home today
Fair market value is what a stranger would theoretically be willing to pay for a home based on today’s demand for similar home
1. HPI aka Home Price Index Model.
The MLS® HPI concept is modelled after the Consumer Price Index, which measures the rate of price change for a basket of goods and services. A basket is the combination of goods and services that Canadians buy most such as food, clothing, transportation, etc. Instead of measuring goods and services, the MLS® HPI measures the rate at which housing prices change over time taking into account the type of homes sold. Basically, take the price seller paid for the home when purchased then look at value today and the percentage change. The difference is the HPI value today. Some math wizard will argue that there is a difference between median and mean average price which does not give an exact estimation however, house valuation is not a science and in the end the above 3 rules applies . Here is an example;
Last Sale Date: 2015 09 01
Latest HPI Date: 2022-11-01
Sale Price: $8,050 M
HPI Value @ Sale Date: $1,238 M
HPI Value @ Latest HPI Date: $1,993 M
Percent Change 61.0%
Today's Estimated Value, based on HPI % Change $7,400,000 M
Today's Estimated Value, based on HPI % Change $7,400,000 M
2. Sales Comparison Approach
It makes intuitive sense: if you want to how much one property is worth, and an identical property just sold next door, that’s a pretty clear indication of value as long as it was an "arms-length transaction" or apple to apple.
Of course, rarely do you have identical properties selling just next door within the last few months. More often appraisers/realtors must simply find the most similar properties they can, as near as possible, and selling as recently as possible.
Here are a few factors that must account for when reviewing comps:
Home size
Lot size
Home age and condition
Home amenities
Location desirability
Proximity to home in question (the closer, the better)
Date of sale (the more recent, the more accurate)
Example: Andy Appraiser/realtor wants to estimate a home’s current value. The home in question has three bedrooms, two full bathrooms, and 2,500 square feet.
He looks at nearby homes that have sold recently and finds three similar comps that sold within the last three months:
Comp 1: 3 bedrooms, 2 bathrooms, 2,350 square feet. Sales Price: $1195,000.
Comp 2: 4 bedrooms, 2 bathrooms, 2,650 square feet. Sales Price: $1235,000.
Comp 3: 3 bedrooms, 2 bathrooms, 2,450 square feet. Sales Price: $1205,000.
Andy estimates the property value at roughly $1205,000-$1210,000, having verified that the condition of all three homes was similar to his property in question.
He looks at nearby homes that have sold recently and finds three similar comps that sold within the last three months:
Comp 1: 3 bedrooms, 2 bathrooms, 2,350 square feet. Sales Price: $1195,000.
Comp 2: 4 bedrooms, 2 bathrooms, 2,650 square feet. Sales Price: $1235,000.
Comp 3: 3 bedrooms, 2 bathrooms, 2,450 square feet. Sales Price: $1205,000.
Andy estimates the property value at roughly $1205,000-$1210,000, having verified that the condition of all three homes was similar to his property in question.
There are many online software tools like Zetsimate or Zillow. These are Automated Valuation Models that pulls data from BC Assessment and sold prices from realtor.ca Since an automated valuation model is based on existing data, the valuations produced are only as good as the information available. With that, AVMs may be inaccurate if the data is outdated or incorrect.
3. The Cost Approach
When compiling a house appraisal/realtor's can’t always find similar comps. For example, a rural house with no nearby homes can be difficult to value through the sales comparison approach. Unique properties, such as castles or converted churches, are also difficult for property valuation by comps, since they’re, well, unique!
An alternative real estate method is the cost approach. How much would it cost to buy the land and build the home?
Of course, one must take into account the property’s current condition. Building a new home from scratch would result in a perfect new house, and the existing house is likely not in perfect, new condition. So, a technique called depreciation to estimate how much less the current home is worth, compared to an identical brand-new house.
Some of the factors appraisers consider for depreciation include:
-The home’s physical deterioration: examples include old mechanical systems, old appliances and fixtures, and the condition of the roof, foundation, and other structural components.
-Functional obsolescence: an outdated way of building or structuring homes. For example, an upstairs layout where the only way to reach one bedroom is to walk through another.
-Economic obsolescence: neighborhood or other location-based factors that leave the property less valuable. An example is if a freeway was recently built right next to the property.
An alternative real estate method is the cost approach. How much would it cost to buy the land and build the home?
Of course, one must take into account the property’s current condition. Building a new home from scratch would result in a perfect new house, and the existing house is likely not in perfect, new condition. So, a technique called depreciation to estimate how much less the current home is worth, compared to an identical brand-new house.
Some of the factors appraisers consider for depreciation include:
-The home’s physical deterioration: examples include old mechanical systems, old appliances and fixtures, and the condition of the roof, foundation, and other structural components.
-Functional obsolescence: an outdated way of building or structuring homes. For example, an upstairs layout where the only way to reach one bedroom is to walk through another.
-Economic obsolescence: neighborhood or other location-based factors that leave the property less valuable. An example is if a freeway was recently built right next to the property.
So, comparable sales are used to estimate the value of the land itself, then estimates the cost of construction to replace the building. Finally, estimate the amount of depreciation and subtract that from the value, to reach a property valuation by cost method.
Example
Example
Andy has been hired to draft a house appraisal on a farm house sitting on 100 acres. After reviewing sales of nearby undeveloped land, he estimates the value of local land at $5,000 an acre, which puts the land’s value at $500,000.
Andy then estimates that it would cost $500 per square foot to build a new castle using the same materials. The castle has 10,000 square feet, putting the replacement cost at $5,000,000.
But the castle needs significant renovations to be returned to like-new condition. Andy estimates renovation costs at $3000,000, based in part on the home inspection report he received.
Thus, Andy calculates the castle’s value like this:
Land: $5000,000 +
Building replacement cost: $5,000,000 –
Depreciation: $3000,000 =
Value by cost: $2,500,000
Bonus Evaluation;
Income Approach used mostly for multiplex unit or properties with commercial component
