Types of value

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There are several types and definitions of value sought by a real estate appraisal. Some of the most common are:

  • Market value – The price at which an asset would trade in a competitive Walrasian auction setting. Market value is usually interchangeable with open market value or fair value. International Valuation Standards (IVS) define:

Market value – the estimated amount for which an asset or liability should exchange on the valuation date between a willing buyer and a willing seller in an arm’s length transaction, after proper marketing and where the parties had each acted knowledgeably, prudently and without compulsion.

  • Value-in-use, or use value – The net present value (NPV) of a cash flow that an asset generates for a specific owner under a specific use. Value-in-use is the value to one particular user, and may be above or below the market value of a property.
  • Investment value – is the value to one particular investor, and may or may not be higher than the market value of a property. Differences between the investment value of an asset and itsmarket value provide the motivation for buyers or sellers to enter the marketplace. International Valuation Standards (IVS) define:

Investment value – the value of an asset to the owner or a prospective owner for individual investment or operational objectives.

  • Insurable value – is the value of real property covered by an insurance policy. Generally it does not include the site value.
  • Liquidation value – may be analyzed as either a forced liquidation or an orderly liquidation and is a commonly sought standard of value in bankruptcy proceedings. It assumes a seller who is compelled to sell after an exposure period which is less than the market-normal time-frame.

Price versus value

There can be differences between what the property is really worth (market value) and what it cost to buy it (price). A price paid might not represent that property’s market value. Sometimes, special considerations may have been present, such as a special relationship between the buyer and the seller where one party had control or significant influence over the other party. In other cases, the transaction may have been just one of several properties sold or traded between two parties. In such cases, the price paid for any particular piece isn’t its market ‘value’ (with the idea usually being, though, that all the pieces and prices add up to market value of all the parts) but rather its market ‘price’.

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At other times, a buyer may willingly pay a premium price, above the generally-accepted market value, if his subjective valuation of the property (its investment value for him) was higher than the market value. One specific example of this is an owner of a neighboring property who, by combining his own property with the subject property, could obtain economies-of-scale. Similar situations sometimes happen in corporate finance. For example, this can occur when a merger or acquisition happens at a price which is higher than the value represented by the price of the underlying stock. The usual explanation for these types of mergers and acquisitions is that ‘the sum is greater than its parts’, since full ownership of a company provides full control of it. This is something that purchasers will sometimes pay a high price for. This situation can happen in real estate purchases too.

But the most common reason for value differing from price is that either the buyer or the seller is uninformed as to what a property’s market value is but nevertheless agrees on a contract at a certain price which is either too expensive or too cheap. This is unfortunate for one of the two parties. It is the obligation of a Real Property Appraiser to estimate the true market value of a property and not its market price.

Market value definitions in the USA

In the US, appraisals are for a certain type of value (e.g., foreclosure value, fair market value, distressed sale value, investment value). The most commonly used definition of value is Market Value. While Uniform Standards of Professional Appraisal Practice (USPAP) does not define Market Value, it provides general guidance for how Market Value should be defined:

a type of value, stated as an opinion, that presumes the transfer or sale of a property as of a certain date, under specific conditions set forth in the definition of the term identified by the appraiser as applicable in an appraisal.

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Thus, the definition of value used in an appraisal or CMA (Current Market Analysis) analysis and report is a set of assumptions about the market in which the subject property may transact. It affects the choice of comparable data for use in the analysis. It can also affect the method used to value the property. For example, tree value can contribute up to 27% of property value.

Next lesson, Three approaches to value, read now!

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