Anatomy of a Sales Comparable

Importance of the Sales Comparable

In the past, I have written extensively about sales comparables and their use within the appraisal report. I have explained what makes a good sales comparable and the process you should take in choosing them.

steps in verifying compsThe sales comparison approach is typically given the most consideration in the appraisal report. There are exceptions such as with new construction or if a property is rented in an area where rentals are predominant.

When a property is new or rented the cost and income approach should be considered. Even in situations like these the sales comparison approach is still given strong consideration in the final value reconciliation.

While I’m not writing specifically about the sales comparison approach it’s important to understand how it fits into the overall valuation picture. The sales comparison approach is one of three approaches to value, with the others being the cost approach and the income approach that I mentioned previously.

The sales comparison approach shows us the market’s reaction to other properties similar to the subject. The market’s reaction is reflected in the price that they are willing to pay for a property similar to the one being appraised.

By analyzing why a buyer paid a certain amount for a similar house we can provide a more accurate opinion of the value for the property being appraised. Part of this study is also looking at how much contributory value a buyer finds in various features of the property.

This is why appraisers make adjustments to the sales comparables they use in the report. If we find that buyers are willing to pay $5,000 for an extra garage space then this is the adjustment we would make if a sale had one less or more garage space than the subject.

On the surface the sales comparison approach seems rather simplistic, however, there are multiple parts to it that would require more than one blog post to explain.

In this post, I thought I would explain the process that appraisers go through to vet the sale. If you are interested in finding out how to choose a comp or the characteristics of a good comp you can read some of my previous articles.

Vetting the Sales Comparable

A sales comparable is chosen by researching the various data sources that are available through either public records or various subscription services. Within the Birmingham, Alabama market the top three sources for sales information are the Greater Alabama Multiple Listing Service, public records, and a local appraiser data group called AGDA.

At a minimum, there are three closed sales used in the appraisal report. Additional sales can be included along with pending sales and active listings to support the final opinion of value.

The steps shown below are taken to verify that the data is accurate as well as to identify differences between the properties that may account for variations in the price paid. On the surface it may look like the appraiser just copies information from the MLS into the appraisal, however, if you dig deeper into the process you will see that the appraiser invests a significant amount of time into making sure that the information about the sales is accurate so the appraisal provides the most reliable indication of market value for the client.

Steps Taken When Verifying Sales

1) Verify the sale occurred – An appraiser can obtain information about a recent sale from the sources noted above or even from a homeowner who was aware that one occurred, however, this information must be confirmed and verified.

I have had multiple occasions where some of the information provided to me was not correct. This was not because anyone was lying or it was intentional but because there was a typo or some other error.

Ideally, it is best to first verify with a party to the transaction that the sale occurred and then to double-check this through public records. Verification sources include the buyer, seller, listing or selling agent, or closing documents. The information to be verified includes the sale price and date of sale.

2) Verify the physical characteristics of the property – This is very important because knowing the size of the home and its features help us to understand why it sold for what it did. A higher sale price may reflect more square footage or the fact that the home had a finished basement or swimming pool.

On the flip side, a lower sale price can reflect repairs that need to be made or the fact that the home was located next to a freeway. These types of features do not always result in a lower price but they could.

Verifying the specific features of a home, and more specifically the square footage is one of the more challenging tasks for an appraiser. Many MLS services include square footage from county tax records which is not always correct.

If incorrect square footage is used it can result in the price per square foot not being very accurate and because agents rely on this metric more than any other it can result in incorrectly pricing a home which leads to further problems with appraisals that are lower than the contract.

When speaking to agents about the appraisal process I emphasize the importance to them of making sure that the physical characteristics of their listings are accurate so that their CMA’s are correct. It’s also important that their MLS information is correct so that appraisers have accurate data when using their listing as a sales comparable.

3) Verify the financial aspects of the sales transaction – After it has been verified that the sale actually occurred and after the physical characteristics of the property have been researched the last step is verifying the financial aspects of the sale such as financing and sales concessions.

Appraisers are required to report on the type of financing that was used in the sale. Types of financing include conventional, FHA, USDA, VA, Cash, or even financing by the seller.

Knowing the type of financing can sometimes explain why a property sold for the price it did. Some methods of financing may have more preferable terms than others.

In addition to the type of financing, the sales concessions must also be included in the appraisal report. Again, knowing the concessions may help to understand why a home sold for what it did.

If a seller contributes more in closing costs this could explain a higher sale price. It is usually done to motivate the buyer to purchase their home and not another.

The appraiser must make adjustments to the comp if the concessions affected the sale price. This is important to know because if someone looks at this comp and uses its sale price to list a home it may not be accurate because of the non-typical concessions.

Conclusion

As you can see, the appraiser must go through considerable steps in confirming and verifying the sales they use in their appraisal reports. These steps can uncover details that may not be apparent in a less detailed analysis of a sale and can explain why a home sold for higher or lower than expected.

Do you have any further questions about the process of verifying and confirming sales? If so please leave a comment below and as always thanks for reading.

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Comments

  1. Tom,

    Well done! Thank you! It is always great to have somebody explain the “why?” of something. Too often all we read is the “how”. Clearly the “how” is important, but when we can answer the “why?” question, that shows we have engaged in critical thought deeply enough to divine how something works and understand those works deeply enough to explain why they work. It is all about the “why?”, but less about the “how”.
    Again, great hob!

  2. Tom, thank you for this very comprehensive information! Great information! I have found, as have you, that visiting with agents about their sale can provide valuable information and insights into why a home sold at the price it did. Especially when it appears to be a bit of an outlier. Most agents are very happy to share information with us appraisers. Thanks for a great post! Good to have you bloggin for our noggins!

    • Thanks, Jamie. I agree that most agents are happy to provide information, especially when we explain to them how everything works and how important this information is.

  3. I get questions all the time about using private sales and where there is a place for that, if we cannot verify the details of the private sale it’s really a blind comparison. I think you’re spot on when it comes to understanding the details of the sale.

  4. Hi Tom,

    Nice to see you posting again. I would add motivations are very important to understand when determining whether a transaction should be considered as a comparable. Did it sell low because the sellers needed to move in a hurry? Did the buyers overbid after missing out on 20 previous offers? During the great recession I adjusted short sales and REO sales 5-15% for motivation frequently.

    • Thanks, Joe. It feels good to be posting again. Thanks for adding “motivations” as a verification item. I could not agree more, especially where buyers are bidding high in the hopes that they will not lose to someone else. I am seeing this a lot more due to the limited inventory as I am sure you are too. Thanks for sharing your thoughts.

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