Grouped data analysis

This article is reprinted with permission from Working RE. The original can be found here

Editor’s Note: Author Rachel Massey offers more help on how to make supportable adjustments.

Extracting an Adjustment – One Way to Measure
By Rachel Massey, SRA, AI-RRS

Because I often get calls from both Realtors and homeowners asking how much a certain feature in a home is worth, I thought a brief discussion of one method of extracting an adjustment from the market might be worthwhile.

This method is described in detail in The Appraisal of Real Estate, 14th Edition (as “grouped data analysis” starting on page 398) and is not a new technique, but one that appraisers may find useful in their daily practice. It can work well because if the appraiser uses care in the isolation process, the sheer number of sales will provide a range of answers, which can then be used for extraction, and support of that particular adjustment.

Instead of writing about theory, I think a simple example from my market is a good starting point. I work in a market where there are usually enough sales to use this method, but it can be useful even in markets where data is more limited. I have to go back two plus years for most of my studies to get enough data points for an adequate sample. This is not perfect but it does work for me when determining certain adjustments, such as basement finish, basement versus no basement, garage stalls, and swimming pools. I have not found it to be very effective with gross living area and it has had mixed results with bathroom counts. There are drawbacks to using it, mainly that the underlying site value is not extracted, but if the sales that are used for the study are relatively similar, the volume of sales generally resolves the issue.

The following show two different examples of an extraction for basement finish; one in my main market big-city area, related to a generally newer house in the $400,000 +/- price range, and the other in an outlying district about ten miles away, in the under $200,000 price range. Both use the same methodology and show substantial differences in results, which is why an appraiser cannot just provide a number or a percentage when asked. Instead, the appraiser has to look at the market.

For the first example, I went back over two years and narrowed my market data to houses between 2,000 and 3,000 sq. ft., built between 1990-2010, on the west side of my market area, and then downloaded all these sales to Excel and segmented the sales between houses with finished basements and those without. The results included 37 sales without finished basements and 62 identified with finished basements. Here is what it looks like on a spreadsheet:

I then looked at median and average sales price differences and median and average amount of basement finish, and came up with between $21,647 and $24,500 difference in price, favoring those with the basement finish and between $24.24 per sq. ft. and $27.75 per sq. ft. of basement finish. This provided me with some support for whatever adjustment I considered most reasonable. This would be anywhere from $21,500 to $25,000 based on sales price differences, or between $24 and $28 per sq. ft. of finished space, if used in that manner.

From experience, I know that basement finish typically costs around $40 per square foot in this market, which suggests that both physical depreciation and functional obsolescence are playing a role here, since the difference is more than what would be expected from physical depreciation alone.

For the second example, I used data from another proximate market with my target properties between 1,200–1,700 sq. ft. in size and built between 1985-2010. I also went back just over two years. I had 48 sales without basement finish and 36 with basement finish, and the median difference in price was $8,953; the average price difference was $14,420. Here is what it looks like on a spreadsheet:

The median size of finish was 625 sq. ft. and the average size of finish was 703 sq. ft., supporting adjustments per sq. ft. of $14.32 to $20.51. This means I could be comfortable using adjustments anywhere from $9,000 to $14,500 for the basement finish as a whole, or between $14 and $21 per square foot if I chose to address it that way. This data gives me something to work with and in the end, I use my experience in the market and what the comparables are telling me for my final determination, but I have support for whatever I do.

As you can see, there are differences in price between the areas and the sizes, as would be expected. Cost remains about the same to complete. Each appraisal may be different, and the numbers presented in these two examples could change depending on how far back the appraiser goes when collecting data and what they set as the perimeters for the data search. I offer this to fellow appraisers as a simple study showing how I often go about trying to extract an adjustment from the market.

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Ranking and Reconciliation

This has been reprinted with permission from Working RE

Ranking and Reconciliation

Road to Supporting Value: Ranking & Reconciliation
by Rachel Massey, SRA and Tim Andersen, MAI

Because the Sales Comparison approach and both the Income and Cost approaches are meant to reflect the actions of knowledgeable buyers and sellers active in the marketplace, a brief discussion of ranking andreconciliation is beneficial. The acts of ranking and reconciliation help set the stage for the appraiser’s opinion of value.

We appraisers tend to get caught up in the minutia of the adjustments, as well as supporting our adjustments, as is appropriate. This means we sometimes miss the big picture, and get way too caught up in the details. It is a rare buyer who breaks out each unit of comparison in a dollar amount. Instead, the typical buyer (of residential property at least) expects to pay more for a property than those that are inferior to it, and less for a property than those that are superior to it. This is just common sense and serves as the foundation of ranking properties relative to the subject.

When we are at the point in the appraisal process of analyzing sales that we consider to be the best representatives of comparison to the subject, we should also look at the larger picture and analyze the sales as a whole. Ideally, we have gathered sufficient and meaningful sales data to have properties both inferior and superior to the subject, as well as ones that are generally similar. It is not always possible to attain this data but in most markets it is generally not too difficult.

The process of analysis and summarization of the sales that we use in our reports should guide the intended user to follow us to a very logical conclusion. The following is a type of real-world example, imperfections and all*:

Example

Comparable sale 1 is a similarly sized, ranch-style house with an updated roof, windows, kitchen, and bathrooms. It has a quiet location off a main road, but does require some travel along gravel roads. This house is superior to the subject in the following manner: It is larger and includes an additional half bathroom; has a deck, a finished basement, and a newer kitchen. It is inferior to the subject in that it lacks a breezeway and the quality is not to the same level as the subject.

Sale 1 is similar to the subject in location because its quiet location is offset by the greater distance to town than the subject. Overall, sale 1 is slightly superior to the subject due mainly to size, bathroom count, and basement finish and it sold for $208,000, setting a logical upper limit of the value range.

Comparable sale 2 is noted in the MLS as being newly remodeled, but the selling agent indicates the house needed work, and the exterior of the house is not in good shape. The house has an addition off the back, which may not flow as well as a house built this size to start. This house is located in a different school district from the subject, right at the district border. In our opinion, there is no marked difference in value between the districts in this location and buyers will consider both equally. The house is inferior to the subject, due to overall condition and its location, which is closer to the other community, which is not as good. The road tends to be very busy at certain times of the day. There is a commercial property across the street and south by only a couple of lots, and an animal hospital/dog play park just a few lots south. As an inferior property, this house sets the logical lower end of the value range and it sold for $153,000 in September 2014. As the market has been increasing, and we can measure an increase of approximately 5% from the date of contract to the effective date of our report, the expected value of this house were it to go under contract as of the effective date is $161,000.

Sale 3 is a good comparable property of similar overall quality and appeal. This house is superior to the subject in that it has an extra half bathroom and two fireplaces as well as being larger overall. It is inferior to the subject in overall cosmetic condition and is more dated cosmetically. The location is closer to the subject community and the road does have traffic, although not as much as the subject’s location. The features that are similar, other than style, are that it has a breezeway and updated furnace and A/C (equal to furnace and electrical). Overall, this property is similar due to the size and amenities such as the deck and fireplaces being offset by the inferior condition. This house sold when the market was about 3% lower, with an approximate value on today’s market in the same condition of $183,000, setting another benchmark in value for the subject.

We have also included information about a pending sale that is located in close proximity to the subject and is similar in age, site size, and overall appeal. This house is superior to the subject in having an additional half bath and being slightly larger. Due to having electric heat, and a more dated decor, it is slightly inferior to the subject overall; it is listed for sale for $184,900 and went under contract within 37 days on the market. We expect the house to sell within 3% of the list price based on the list price to sales price ratios found in this market place. This pending sale provides good evidence of current market activity.

This type of ranking description is not extensive, but it provides the client and intended users a good place to start to understand some of the appraiser’s logic in arriving at a value conclusion. The appraiser has already indicated that the subject has a logical lower limit of value of $153,000 and an upper limit of value of $208,000. This is a relatively wide spread, however, of 35.95 percent based on the unadjusted sales price range. Through the adjustment process, such as with the use of paired-sales data, grouped paired-sales data, regression, depreciated cost, sensitivity, and more, it is logical to conclude this range should narrow considerably as a result of the adjustment process. Consider the following reconciliation of the three sales that were addressed above:

We have included three closed sales in the analysis. The closed sales present one inferior (sale 2), one superior (sale 1), and one generally equal (sale 3). Looking at these sales without any adjustment for any of the units of comparison other than changing market conditions, the superior property sold for $208,000, presenting a logical upper end of the value range. The inferior property sold for $161,000 (accounting for the changing market conditions only), providing a logical lower end of the value range. The similar property sold for $183,000. Together these sales provide a means to indicate that even without adjusting for anything other than changing market conditions, the subject would have a low range of $161,000, high range of $208,000 and a logical price range around $183,000.

After applying the units of comparison that we considered most relevant, namely market conditions, site value, condition, size and bathroom count, the adjusted sales price range narrows significantly from a low of $179,000 to a high of $186,500. The most similar sale adjusts to $179,000, and a similar competitive offering is for sale for $184,900 and expected to be close to list price. All of this information causes us to consider the most likely value for the subject at $183,000, which is the appraised value. This takes into account both the adjusted and unadjusted sales prices of the comparables as described above.

Logical, isn’t it? Notice how the adjusted sales price range has narrowed from 35.95 percent down to 4.19 percent? This would be typical of a well thought out and analyzed adjustment grid. All too often appraisers average these sales data rather than reconcile as to which sale has the most meaning relative to the subject and why. Remember that the Uniform Standards of Professional Appraisal Practice (USPAP) actually requires us to “…reconcile the quality and quantity of data available and analyzed within the approaches used…”(Standard Rule 1-6 (a). It also requires us to “…summarize the information analyzed, the appraisal methods and techniques employed, and the reasoning that supports the analyses, opinions and conclusions…”(Standard Rule 2-2(viii)) when using the Appraisal Report format.

Why is this important? It is important because it shows the logic the appraiser used to go from the general information of the unadjusted comparable sales, to the specific rationale behind the appraiser’s value conclusion. Not only that, it also reflects the way that buyers buy houses. Buyers may consider the cost of a new house as an alternative, as well as weighing the time to completion, particularly on newer houses. When buying a house, most buyers also consider the cost of renting on a monthly basis, so the income approach is also often applicable to the formation of a credible value opinion when buyers in a particular market could rent just as easily as they could buy. At the very least, knowing that their mortgage payment would be in the range of a rental payment is at the forefront of many buyers’ minds, in particular after the recent mortgage crises.

Recall that standards rule 1-6 requires us, when developing a real property appraisal, to reconcile two areas of our analyses. First, we reconcile the quality and quantity of data available and analyzed within the individual approaches. This means that we discuss the analyses of construction costs, depreciation estimates, site values, comparable sales, comparable rentals, and availability of data, ability to confirm the data, and so forth. Then we reconcile between the various approaches to value that we have applied in the appraisal process. Please consider this language as one example:

Because there were sufficient data from reliable sources, the appraisers were able to analyze the subject using all three of the standard approaches to value. While the Cost approach indicated a value conclusion approximating that of the Sales Comparison approach (after adjustments), it is best used as a secondary method on a house of this age. There was plenty of comparable sales data by which to form a value conclusion. All were relatively close to the subject. Since the houses in the subject’s neighborhood are generally not purchased and sold as investments or income producing properties, the Income approach was not able to yield a reasonable indication of value. For this reason, its details are in the workfile, but the appraiser has omitted it from the report as neither applicable nor necessary to the formation of a credible value opinion.  

Next, Standards Rule 1-6 requires us to reconcile the applicability and relevance of the approaches, methods, and techniques we use to arrive at a credible value conclusion. As we pointed out earlier, this is nothing more than a process where we assign a specific weight to the conclusion of a specific approach. Typically, the more comfortable we are with the value conclusion of a specific approach to value, the greater weight that approach receives in this reconciliation. Consider this language:

For the reasons cited above, the appraiser chose to give the greatest weight to the value conclusion from the Sales Comparison approach. For those same reasons, the appraiser gave some weight to the value conclusion the Cost approach indicated. Finally, for the reasons cited, the Income approach merited no weight in the final analysis. It is for these market-supported reasons the appraiser concludes the market value of the subject property, as of the appraisal’s effective date, was $183,000. 

Notice how we ranked the sales and then provided the “why” behind that ranking? Then we ranked the data in the individual approaches, as well as the “why” of that ranking. Finally, we ranked the individual approaches and, again, explained why we did so. With this ranking we showed both the sales that merited the greatest weight in the final analysis, as well as why we concluded they merited that weight. Then, via the reconciliation to the individual value indications, we indicated (a) which was most persuasive in forming the value opinion, as well as, (b) how and why we arrived at that conclusion. These two steps are in compliance with SR1-6(a, b) as well as the Fannie Mae Selling Guide. This is the quality of appraisals and reports clients and intended users look for, and that, over time, will merit more professional fees.

*We took a real world example and cleaned up some of the language, eliminated a sale to make it more readable and to eliminate any telltale signs of the subject property.

Extracting an adjustment – one way to measure

I just fielded a call from a potential client who was curious about how an appraiser would go about extracting an adjustment from the market, in this case specifically basement finish. In the discussion I explained that there is no factor that appraisers use, but that we turn to the market to try and show us what buyers are paying. Because different markets can act quite differently, I thought putting up a couple of examples of this type of extraction might be useful, both to my potential client, as well as my audience in general.

The following show two different examples of an extraction for basement finish, one in Ann Arbor related to a generally newer house in the $400,000 or so price range, and the other in Lincoln school district in the under $200,000 price range. Both use the same methodology and both show substantial differences in final results, which is why an appraiser cannot just provide a number. Instead the appraiser has to look at the market.

The first sample I went back two years and narrowed my market data to houses between 2000 and 3000 sqft, built between 1990-2010 on the west side of Ann Arbor (used areas 82, 83, and 84) and then downloaded all these sales to Excel and segmented the sales between houses with finished basements and without. The results were 37 sales without finished basements and 62 identified with finished basements. I looked at median and average sales price differences and median and average amount of basement finish, and came up with between $21,647 and $24,500 difference in price favoring those with the basement finish, and between $24.24 per sqft and $27.75 per sqft of basement finish. This provided me with some support for my adjustment. I don’t recall what my adjustment was, but I think anywhere between $20,000 and $25,000 is supported based on this data. That and in my experience, basements in this area cost about $40 per sqft to actually finish.

Here is what it looks like on a spreadsheet:

basement finish a2 400k

The next example is using sales in the Lincoln school district, and in this one my isolated properties were between 1,200 – 1,700 sqft in size and built between 1985-2010, also going back two years. I had 48 sales without basement finish and 36 with basement finish, and the median difference in price was $8,953 and the average price difference was $14,420. The median size of finish was 625 sqft and the average size of finish was 703 sqft, supporting adjustments per sqft of $14.32 to $20.51.

lincoln

As you can see, there are differences in price between the areas and the sizes, as would be expected. Cost remains about the same to complete. Each appraisal may be different, and the numbers found here in these two samples could change depending on how far back the appraiser goes on their data research and what they set as the perimeters for the data search. I offer this to you, my readers, as a simple study showing how I often go about trying to extract an adjustment from the market.

A final word of caution; I would not expect to see an appraiser put this analysis into their appraisal. They will likely do it, and say something in the report about the adjustment being analyzed through market data. This is what they likely mean, but won’t put the actual results into the report, instead they will have it in their files, be it in the office in general, or specific to an appraisal they were working on.

Hope you all enjoyed this simple explanation, and if you have questions about appraisals and appraisal processes, please feel free to contact me. Easiest way to reach me is via email at rach mass at comcast dot net.

Spring has sprung

Well, not if you look outside (or step out into this crazy weather), but doing my normal Open House sleuthing, it was pretty apparent that the pent-up demand is driving buyers in droves into the market.

I looked at three disparate  properties; a small ranch in the Lincoln school district, a larger contemporary home overlooking Gallup Park trails, and a mid-century modern on the west side of Ann Arbor on a semi-busy road. On each of these visits, there were not quite wall-to-wall buyers – quite surprising for March 1st.

The Ypsilanti Twp (Lincoln school) property had three sets of buyers at the house already when I got there and as I was leaving another was coming in the door and two cars were pulling up. Not shabby for having opened only ten minutes earlier. The house overlooking Gallup had two sets of buyers at it, another one leaving, and a couple of people waiting in a car, likely waiting for their agent to show up. The listing agent, who is a personal friend of many years, had little time to actually talk because he was busy fielding questions. This is an excellent sign.  The last house was crazy. It had come on the market two days before and apparently already had three offers (it showed up as under contract today). I got blocked in the driveway and couldn’t leave for a while, and potential buyers were having to park down the street to come in.

Why do I write about this? Because I think it is important, as an appraiser, to stay in touch with your market. How better to stay in touch than to see it from the perspective of buyers, as well as agents who are active in the market. Agents may tell me they are busy, but I can see it first hand if I am at Open Houses and can barely get through. The opposite can also be true, as agents could tell me they are getting a lot of activity, but be happy to have a visitor at the open house.

Right now it looks like our early spring market has hit. This is common in the Ann Arbor market in March, but it feels a couple weeks earlier than normal.

Now if only the actual weather would follow…