Comparable Property analysis

February 27, 2019

Comparable Property analysis


House with question mark“How much is this house worth?” is the first question to pop up once you’ve decided to look at a property. Determining the fair market value of a property is the key in finding value in the properties you consider investing in. Purchasing at significantly below market value is a great start in making money in a real estate investment. Purchasing at significantly more and your chances of taking a bath just got worse. Of course, as in all real estate investing, what the property is worth to you depends entirely on your plans for it. If you can flip it for a substantial gain, it may be worth paying a little above fair market value for the property as it stands.

A verifiable estimate of the fair market value of a house, backed up by comparisons with other similar properties and actual sales data is a valuable asset in any real estate transaction. First, the more data you can show a lender, the more likely they are to approve a loan. Second, being able to show a seller that their asking price is out of balance with the market can be an effective bargaining tool. Finally, a fact-based FMV lends confidence to all the other calculations you will do in determining the value of a property. Knowledge is power and this knowledge is fundamental to reducing your risk in every real estate transaction.

The Basic Approach

Reaching a FMV can be summed up in two words: “compare and adjust”. First, find three or four similar properties and look at their selling prices. Second, adjust the prices up or down to bring the comparable in line with the property you are considering.

Best Practises for Choosing Comparable Properties

  1. Location – Comparable properties should be as close as possible (ideally within a kilometer or two), in the same neighbourhood at least
  2. Age – Within 10 years of your property (can be more if they are both more than 50 years old)
  3. Square Footage – Only use above ground square footage. Stay within a 20% range
  4. Property Type – Compare apples to apples (single family to single family, split level to split level)
  5. Bedroom/Bathroom Count – Only count above ground, the closer in number the better
  6. Sale Date – ideally within the last 6 months. Remember use SELLING Prices, not asking prices!

entering data

Now enter the numbers in your comparison sheet. If the comparables are well chosen, you should have a good ballpark figure of the FMV of the property you are looking at. Caution! A good ballpark figure is probably within plus or minus 10% or so. That 10% can be the difference between making and losing money! Don’t stop now. The next step is to make the fine adjustments to bring all the properties to the same condition so you will be comparing closely matched properties.

Adjusting the Prices

In this step, you will adjust the prices of the comparables based on a more detailed look at each property. The idea is to make each property look as close to your investment property as possible. For example, if your potential investment has a garage and the comparable doesn’t, you would pretend the comparable HAS a garage and adjust it’s expected price correspondingly upwards. If the comparable has an extra bedroom, you would “pretend” it didn’t and adjust its price down to match the condition of your investment property. This sounds more complicated than it is. Basically, if the comparable has something your property doesn’t, adjust its price down. If it lacks something your property has, adjust the price up. You want to compare, as much as possible, similar properties.

Knowing how much to adjust for each factor is almost as much art as science. The more familiar you are with the properties and prices, the better your estimate will be. Remember, what people are willing to pay for an upgrade will not be equal to the cost of upgrading. For example, it is unlikely someone will value a $10,000 garage package at $10,000 when considering what they will pay for a house. Explicit or not, those things will always be discounted in the minds of buyers. Keep that in mind when you look at the most important things to consider:

  1. Lot size – gather information on a number of similar properties and determine the average price per square foot of lot. Discount accordingly.
  2. Square footage – find the average cost per square foot and do the math. But, anything less than 150 square foot difference probably won’t matter.
  3. Build Quality (fit and finish) – This can be a significant factor in a buyer’s perception of value.
  4. Bathrooms – an extra full bathroom could safely be a $1500 adjustment
  5. Heating/Cooling/Plumbing – No more than a $2500 adjustment
  6. Basement – finished or unfinished. Consider the extra living space at about 50% of above ground square footage
  7. Garage – average $7500
  8. Exterior amenities – paved driveway vs. unpaved, mature trees vs. no trees. Experience is your best guide here.
  9. Interior amenities – fireplaces, fancy flooring, upgraded kitchens etc.

This is an area where you must put yourself in the mindset of a buyer. A buyer does not look to see how much a feature adds, they are looking to see how little it adds. They want to spend a little as possible, so you are better to err on the side of caution when applying adjustments. As a seller, you must fight the tendency to over-value features because the buyer will certainly under-value them. Here is a renovation price list you can use to help in your estimates:  Renovation Price List

Now For a Little Math

monkey math

Now that you have your adjusted prices, find the price per square foot for each comparable. Add these together and divide by the number of comparable properties to calculate the average selling price per square foot. Multiply this by the square footage of the property you are considering to determine the most-likely estimate of the FMV. Now, add $2.50 per square foot to the average and do the calculation again to determine the best-case FMV. Finally, subtract $2.50 per square foot from the average and find the worst-case scenario for your property. The price you pay for the property MUST be below the most-likely FMV and ideally will be below the worst-case FMV.

(Average price per square foot + $2.50) x subject property square footage = best-case FMV

(Average price per square foot + $0.00) x subject property square footage = most-likely FMV

(Average price per square foot - $2.50) x subject property square footage = worst-case FMV

In Summary

By comparing the price of the property you are considering to that of other more-or-less similar properties, you can get a fairly good idea of its fair market value. Then, by adjusting the selling prices of the comparables, you can narrow this down a bit more. Then, by doing a little math you can find a range of probable values for the property you are thinking of investing in. The price you pay should never be more than the most expected fair market value and, ideally, less than the worst-case scenario.

The 4 Biggest Mistakes You Can Make

  1. Not having a clear idea why you are buying the property

You must always, always, always keep in mind why you are buying the property. Is it to rent? To flip? To live in? This affects everything you do and every decision you make. A well priced rental property is useless to you if it can’t cash flow. On the other hand, a slightly overpriced property might be worth a look if it can be flipped easily for a profit. End use is everything.

  1. Guessing

Don’t guess! The usefulness of this exercise is only as good as the numbers you put in. You must verify x

If a number can’t be verified, you need to know, and keep that in mind when making a decision.

  1. Using asking prices instead of selling prices

The price people ask for a property is almost never the price someone is willing to pay for it. You must, must, must only use selling prices when do a comparable sales analysis.

  1. Using comparables that don’t compare

Adjusting for differences between properties can only go so far. This is especially important in the area of location. Whatever you do, don’t try to compare with properties in different neighbourhoods. Remember, location, location, location. The same house in two different places can have wildly different selling prices.

4 Keys to Success

  1. Be Systematic

Use checklists. Gathering the same information from each property will let you be efficient and confident in your comparisons. Going through the same steps with each potential deal will make the process efficient and less prone to error.

  1. Focus on a few neighbourhoods

By focusing on two or three neighbourhoods, you can get to know the local market much more quickly.

  1. Put together a team

A trusted realtor can get you the comps you need. A local builder or renovation specialist can give you hard numbers on the value of improvements. A lawyer, banker, mortgage specialist and home inspector make great additions to the team!

  1. Let the numbers decide

Successful investing is all about the numbers. No matter how much your heart yearns to make a deal, if the numbers say “no”, walk away. Making decisions based on your emotions will cost you money.

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