Are you an aspiring real estate agent studying for your real estate exam? I can assure you that understanding the sales comparison approach (market data approach) will be on your exam.
In any transaction, you must have a realistic idea of what the asset of your interest is worth. One method of finding this is by assessing its value.
But, just how does one compare the options we’re given? Many factors affect the price of real estate.
Many real estate firms have long made decisions based on a combination of intuition and the analysis of traditional, retrospective market data.
3 Approaches to Value
When appraisers make appraisals, there are actually 3 different approaches that appraisers can take:
- The Market Data Approach, also known as the sales comparison approach
- The Cost Approach, also known as summation
- The Income Approach, also known as capitalization
Pursuing sales using the first approach (market data) is most popular; it’s said to be the best at indicating the value of the subject property as it presents the broad picture of the selection process.
What Is The Market Data Approach?
The simple definition of the market data approach is that a market value is determined based on what similar properties have recently sold for in the same market. In other words, a sales comparison approach.
What’s happening here is the appraiser compares (for a browser) subject property to comparable properties (or “comps” for short) that have already sold recently.
Typically, an appraiser would like to name at least 3 comparable properties.
However, in order to have appraisals where data is really valid, a lot of buyers and sellers are needed. And home purchases are where there is the most data.
To visualize this: If you are a browser for a home, your real estate agent looks at the subject property, then goes out and seeks similar properties in the area that are comparable, and utilizes them to appraise the existing asset.
Rarely are 2 properties presented to be identical to any browser.
The appraiser would have to make some adjustments to the comparisons to bring them in line with the subject property (Note: the subject property is never adjusted).
For example, adjustments could be the date of sale, location, financing (loans), conditions/ features (having a fence, air-conditioning, swimming pool, etc.), and special conditions on the sale (it could be a short sale, bank owned, or stigmatized property, to name a few).
Adding all these adjustments brings you to the adjusted final values.
The appraiser would then ask himself/herself:
Which of the comps is actually the closest to the subject property?
The answer is generally the comp with the fewest adjustments.
What Are the Steps in the Market Data Approach?
The 5 steps of the sales comparison approach are:
- Study the market
- Collect & verify data
- Analyze & compare properties
- Adjust the prices of comps.
- Reconcile the newly adjusted prices
Regardless of the type of asset being valued, the market approach studies recent sales of similar assets, but the final decision on what the subject property is worth is made by the appraiser.
Remember, an appraisal is simply an opinion of value.