Alright, so you have identified your neighborhood & picked your comps, analyzed your market to determine trends and time adjustments, and you have calculated and applied property adjustments to your comparables.
How do you turn all of that into an estimate of property value?
It’s time to reconcile your comps and determine an opinion of value, but to do so we need to do two more things…
First, we need to identify the comparable price ranges, both the unadjusted price range and the adjusted price range, and consider how our adjusted comparables fit into each.
Second, we want to analyze the adjusted comparable prices and determine a value for the property that best represents what the data is showing us.
In this post, we are going to help you do both of those things.
What is reconciliation?
The first thing we need to do before determining a reconciled value is to address what reconciliation is.
Simply put, a value reconciliation is an act of breaking down the adjusted sales prices calculated for each property, and coming up with a number that best represents the contribution each comparable property should play in the value of the subject property.
When you see an appraisal, the opinion of value listed in the report is a reconciliation of the comparables used, just like your reconciled value should be a reconciliation of the comparables you use.
There are a couple of ‘rules’ that are important when it comes to a reconciliation…
First, your reconciled value must fall within the adjusted price range of the comparable properties, and it would ideally fall within the unadjusted price range as well.
Here’s an example…
If your comparables have an adjusted price range from $418,000 to $426,000, and an unadjusted price range from $405,000 to $450,000, the highest your opinion of value should be is $426,000 and the lowest it should be is $418,000, however, it should most likely fall somewhere in between those two values. Assuming it falls within the adjusted price range, in this case, it would also fall within the unadjusted price range.
Second, you need to have a method for determining an exact value, it can’t just be a range.
You can’t just pick any value that falls within the range, and the reconciliation cannot simply be an average of the adjusted comparable prices. We will cover the most common methods used by agents below, as well as the method we believe to be the best.
Now that we know what reconciliation is, and the rules we need to follow, let’s take a look at the two price ranges that we need to identify.
Unadjusted vs Adjusted Price Ranges
Once you have made all of your adjustments to your comparables, you will have two different comparable price ranges.
First, you have the unadjusted price range.
This is simply the sale prices of your comparable properties, exactly as they sold, as listed in the MLS or with the county assessor.
Second, you have the adjusted price range.
This is the range of the sales prices of the comparables after adjustments for any and all differences that are supported by the market data. If you haven’t read our post on calculating property adjustments and adjusting your comps, go read it really fast.
The adjusted price range should ideally be more narrow than the unadjusted price range, and fall within it, but it may be higher or lower at times.
Let’s look at an example:
If the unadjusted prices of your comparables are $405,000, $425,000, $415,000, $422,000, and $450,000, your price range would be from $405,000-$450,000. That is a spread of $45,000.
Once you have made adjustments let’s say that your comparables are priced at $418,000, $422,000, $419,000, $424,000, and $426,000.
In this case, your price range would be from $418,000-$426,000. That is a spread of $8,000.
As you can see, in this example, our adjusted price range fits within the unadjusted price range and is also a lot more narrow. This confirms the adjustment we made and shows good support for the adjusted prices of the properties.
Note: At times your adjusted price range may be higher or lower than your unadjusted price range, especially if the market is requiring large time adjustments, or if your narrow market has limited data and therefore you have to use comparables that require a large number of adjustments.
The concern for lenders, and appraisers, when the adjusted price range falls outside of the unadjusted price range is that your comparables may not actually support your adjustments.
For example, if your unadjusted price range is from $405,000 to $450,000 but your adjusted price range is from $465,000 to $485,000, even though the range is tighter after adjustments, it shows that there was not a single comp that sold for more than any of the adjusted sales prices.
While this can be the case at times, especially if the reason for the adjusted price range falling outside of the unadjusted range is due to time adjustments that are supported by the statistics, as well as by pending or under contract listings, many times this should be a red flag that perhaps some of the adjustments made were too large.
If, however, your adjusted price range falls within the unadjusted price range, it shows that there was at least one comparable that sold for more, and at least one that sold for less, which gives reason to believe that the adjustments made are valid.
Once you have examined your price ranges to make sure that your adjustments are well supported, it’s time to turn your comparable values into a single opinion of value.
The Best Method for Reconciling Comparables
There are a number of methods for reconciling your comparables.
Some agents simply choose a value somewhere within the price range. Some take an average of the adjusted (or unadjusted) sale prices. Some choose to value the property the same value as the most similar comparable, regardless of the other comparables.
And some pick a number out of a hat (alright, this is a joke – although sometimes it may seem that way, right?)
But none of those are the best method. None of those methods provide great support for the value that was chosen.
In our opinion, the best method is a weighted average reconciliation approach.
Why is this the best?
This method is the best approach because it gives the most similar comparables the most impact on the final value of a property.
Here’s the thing…
Even after making adjustments to comparable properties, you will never have the properties line up exactly. What that means is, even though you’ve made adjustments to each of your comparables, it is extremely unlikely that you would ever have all your comps adjust to the exact same value.
There will always be a spread in the price range. The goal is obviously to make the spread as small as possible, however, it is still likely that there will be somewhat of a spread. And even if you were able to get them directly in line with each other, and have the exact same value, some comparables will obviously require more adjustments than others.
In either case, it would not make sense to say that every comparable has an equal impact on the value of your property.
If one comparable only required 1% adjustments and another required over 30% adjustments, it is reasonable to say that the first comp is a much better comparable property.
And since you will have a range of values, it is important to give more weight to the most similar comparables so that their adjusted price has more influence on the outcome of your property valuation.
How to Determine Reconciliation Weight
There are two main methods for determining the weight you assign to comparables as part of your reconciliation process:
- Gross adjustment percentage
- Most similar home
Let’s take a look at each of these methods…
Gross Adjustment Percentage
In this method, you simply give the most weight to the property that has the lowest gross adjustments. The reason for this is that technically speaking the comparable with the lowest adjustments should be the most similar. The property with the highest gross adjustments should technically be the least similar. And all the other properties in the middle fall somewhere between the two.
Here’s an example:
As you can see in this reconciliation, the property on Morrow Bay Way required the lowest gross adjustments at 8.3% and it was given the most weight at 25%. The property on Silver Charm Way required the highest gross adjustments at 22.9%, and it was given the lowest weight at 10%. All of the other properties fell somewhere between the two and were given weights in-between as well.
This can be done mathematically, where the weights given are inversely calculated, or it can be done manually where you start by giving the lowest gross comp a weight that seems appropriate and working your way down from there.
Most Similar Home
In theory, the most similar home should have the lowest gross adjustments, right? And the least similar should have the highest adjustments, correct?
In some cases, a property with higher adjustments may be more similar than a property with lower adjustments.
Let’s look at an example:
Your property is a 2-story design home with 3,500 sq ft of living space, a two-car garage, and an unfinished basement, located in a higher-end neighborhood, and has a 7500 square-foot lot.
Comparable number one is the same floor plan, by the same builder, in the subject property’s neighborhood. It also has a two-car garage, an unfinished basement, and has a 7,250 sq ft lot. It sold six months ago in a rapidly increasing market and required 12% gross adjustments.
Comparable number two is a 3,200 sq ft 2-story design home, in a similar neighborhood across the street, also with an unfinished basement, and it has a three-car garage. It has a 12,000 square-foot lot and it sold two weeks ago. It required 8% gross adjustments.
Which is a more similar property?
If you used the gross adjustment percentage method, you would say that comparable number two is the more similar property, due to requiring ⅔ of the adjustment required by comparable number one, and therefore would get a larger percentage of weight.
However, in this case, due to the fact that comparable number one is the exact same home, in the same neighborhood, on a nearly identical lot, it could be said that it is a more similar home even though it sold in a less similar market (due to being from 6 months ago).
If you are able to use a well-supported analysis to calculate market trends and determine time adjustments (like you can if you use the Comp Adjuster) it would be reasonable to give comparable number one more weight – or at least similar weight – due to the fact that outside of the time adjustment it required nearly no other adjustments.
Which method should you use?
There is no right or wrong answer here. Good arguments can be made for both methods.
If you are highly confident in the time adjustments you calculated you may be better served to use the more similar home approach.
If your market data is a little bit less accurate and therefore you have lower confidence in your time adjustments, you would be better off using the gross adjustment percentage approach.
This is where your experience as a real estate professional comes into play.
It’s up to you to determine the best method to reconcile the property value on each property you work on.
On some properties, you may find that the gross adjustment percentage method makes more sense. And on others, especially when you have comparables of the same floor plan, you may decide that the most similar home method makes more sense.
And on others you may use a combination of the two.
Either way, the goal is to give the most weight to the best comparables, regardless of which method you use.
In this post we broke down the methods for determining reconciled value. We showed you how to use a weighted reconciliation approach, and we discussed the differences between the two methods for determining your comparables weight.
We hope that this post, and the rest of the series on property valuation, has given you a better way to approach pricing a property. If you have any questions about any of the topics covered in this post, let us know. Our goal is to help you approach valuation in the smartest way possible!