Fannie Mae’s market value definition and what it means to an appraiser
Jan. 2010 by Carlton Mitchell Certified Residential Appraiser in Maryland and Virginia.
The market value definition is pre-written in FNMA’s appraisal forms.
Here is the market value definition:
DEFINITION OF MARKET VALUE: The most probable price which a property should bring in a competitive and open market under all conditions requisite to a fair sale, the buyer and seller, each acting prudently, knowledgeably and assuming the price is not affected by undue stimulus. Implicit in this definition is the consummation of a sale as of a specified date and the passing of title from seller to buyer under conditions whereby: (1) buyer and seller are typically motivated; (2) both parties are well informed or well advised, and each acting in what he or she considers his or her own best interest; (3) a reasonable time is allowed for exposure in the open market; (4) payment is made in terms of cash in U. S. dollars or in terms of financial arrangements comparable thereto; and (5) the price represents the normal consideration for the property sold unaffected by special or creative financing or sales concessions* granted by anyone associated with the sale.
*Adjustments to the comparables must be made for special or creative financing or sales concessions. No adjustments are necessary for those costs which are normally paid by sellers as a result of tradition or law in a market area; these costs are readily identifiable since the seller pays these costs in virtually all sales transactions. Special or creative financing adjustments can be made to the comparable property by comparisons to financing terms offered by a third party institutional lender that is not already involved in the property or transaction. Any adjustment should not be calculated on a mechanical dollar for dollar cost of the financing or concession but the dollar amount of any adjustment should approximate the market’s
reaction to the financing or concessions based on the appraiser’s judgment.
Most probable price: Please take careful note this does not say highest possible. Therefore, from a risk assessment purpose this mechanism reflects a built in buffer signifying that there has to be market desire for the product at the appraiser’s opinion of value that is main street credible. I begin my market analysis with a market segment definition based on the location and physical features of the property I’m appraising for compliance with reflecting high probability.
Sometimes this market segment is limited to the neighborhood while other times due to limited neighborhood sales I compile sales from a larger geographical area to increase the data points to a high enough number to reflect probable market response.
There are two main factors that help keep the market segment definition creditable when increasing the geographical area. First, the appraiser should verify that the other neighborhoods where data is coming from has a historical price per sqft range similar to the subject neighborhood. If not than identify the cause of the variance and adjust for it in the appraisal. For example, neighborhoods A and B are predominantly rambler homes built post WWII. Neighborhood A’s ramblers are generally slightly larger than neighborhood B but through historical analysis and matching sales over time from each neighborhood sorted by condition illustrate that the price per sqft range from each neighborhood is small enough to not warrant a linear negative size adjustment for sales from neighborhood A.
I have seen this many times when reviewing appraisals where linear adjustments are simply assumed. I have sent appraisals to lenders with out a linear size adjustment with market support for my determination only to have lender reviewer’s call and request a linear adjustment because “every report has a linear size adjustment over 100sqft variance”. I have to laugh because many appraisers’ use software that has a built in process for automatically adjusting for size. The software often has a default variance setting of 100 sqft. For example, any variance over 100 sqft adjust. The appraiser inputs the multiplier and the software auto adjusts. So if so many appraisers are adjusting for size base on a software default setting how is that a reflection of the market? Does every market segment respond to size in the same manner?
The second factor to keep the data compilation creditable requires the appraiser to set search parameters based on physical features to isolate sales from the data set that are not comparable to the subject. Meaning remove data points that simply would not be considered by the market place to be in the same bracket. For example, if I’m appraising a 50 year old home newer homes typically would not be in my data set. Be mind full of location and physical variance that may skew the data set compilation from reflecting market response specific to the home you are appraising.
“buyer and seller, each acting prudently, knowledgeably and assuming the price is not affected by undue stimulus.” This part of the definition caused issues in lender appraisal policy when foreclosures started to become wide spread in the market place. Some appraisers were saying that foreclosures or short sales should not be included in the appraisal if the subject property was not in a similar distressed status. On the surface that seemed reasonable but never set well with me. I simply do not like blanket policies as being the best fit for every situation. I choose to let the market tell me how to define the data set. The affect of distressed sales/listing can be determined by simple categorization. Create two columns with distressed sales in one and non-distressed sales in another. Break down into condition categories and compare the sale prices and days on the market to identify the market response. Than incorporate the outcome into the appraisal development process.
“price represents the normal consideration for the property sold unaffected by special or creative financing or sales concessions*”
Notice FNMA has a star beside this statement. I hear it all the time from realtors. FNMA allows up to 6% seller concessions as if it’s a free party to inflate prices or hold prices up when demand is falling. This is the beginning of FNMA’s directive to appraisers that we are responsible to determine misuse of seller concessions. Meaning that appraisers must determine if the concessions reflect market value or not. This is most noticed when qualified buyers purchase a similar unit without concession at a lower price. This is typically identifiable in multiple transactions and really illustrates where the market is moving. Also, take a neighborhood or a market area and run all sales for a 30 year period. Most likely you will find a big increase in seller concession during economical downturns. I’ll get into the significance of this historical data below.
“*Adjustments to the comparables must be made for special or creative financing or sales concessions.” Once again FNMA has a star to signify importance. Simply compile the data set and identify transactions with and without concessions and let the market determine where market acceptance is and net the concessions accordingly.
Now we get back to the historical data analysis. “normally paid by sellers as a result of tradition or law in a market area; these costs are readily identifiable since the seller pays these costs in virtually all sales”
Compile the sales data for 30 years for the defined market area. Can you say virtually all sales had seller concessions? It is law? In my market area Montgomery County Md and Fairfax County Va I can say seller concessions are not law. I’ll even say sellers really do not want to give money back at closing. I will also say virtually all sales do not have seller concession. Therefore, for FNMA compliance I must determine most probable market value and may need to net seller concessions to meet compliance.
“Any adjustment should not be calculated on a mechanical dollar for dollar cost of the financing or concession but the dollar amount of any adjustment should approximate the market’s
reaction to the financing or concessions based on the appraiser’s judgment.”
What FNMA is stating here is as mentioned above, determine probable market value and base the removal of seller concessions in the opinion of value rooted in market response. Yes, it may be a 100% concession deduction (dollar for dollar) across the data set.
Carlton Mitchell
Carlton provides residential appraisal services in Maryland and Virginia for a 30 mile radius of Washington Dc. Carlton specializes in Montgomery County MD. Carlton is a certified residential appraiser based in Silver Spring, Md. Carlton accepts fee assignments and is available for appraisal review work.
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