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How to value a property

kew-aerial-property-buyer
Oct 11, 2018

There’s a few different ways to value a property, and these days the banks have more control than ever on agreeing with the market price you have paid. It can depend on the type of property, how unique it is, the number of sales in the area, and the speed that the market is moving – up or down.

The fact is all values are nothing more than opinions, based on a standard set of rules. Valuation methods vary between institutions like banks, real estate agents and other buyers. Market value, your estimate, bank or council values, are all subjective.

To become knowledgeable, you need to research the market. What is implied in being prudent is that you actually know how to value. This is the missing piece for far too many buyers – especially first timers. They do not know the simple process of valuing property. The selling agent can assist you in determining value, but as they work for the vendor, their interests are aligned with getting the highest possible price for the seller.

When buying real estate, you must conduct your own analysis of what the property is worth. This involves compiling sales evidence and reaching an independent conclusion.

In the valuation industry there are three accepted methods of valuation:

Direct Comparison

This is where you compare apples with apples (or 3 bedroom houses with 3 bedroom houses). When there is a lot of sales evidence, this is the simplest method to apply.

Summation

This is where you separate the valuation into land, building, and other improvement value. For example, land in this suburb might be worth $1500 per square metre (psm). Houses of this condition/quality/age in this particular area might be worth approximately $500 psm. Then you add a nominal value for garages, swimming pools etc.

Capitalisation

This is where you arrive at a value using the capitalisation rate (market yield) and annual income (rent). If for example, the property would rent for $850 per week, and current market yields are approximately 3%, then you would work out value as follows:

$850 per week X 52 weeks = $44,200 (annual rent or income)
Divided by 3% or 0.03 (market yield or capitalisation rate)
Value = $1.473M

To understand market yields you can either speak to a few local agents or search within your chosen suburbs on realestate.com.au suburb insights pages.

All three valuing methods rely on the same information, which is market evidence of sales and/or rentals – recently sold or rented property. Valuers will generally use 2 methods to arrive at a property value. They will use a primary method and then a secondary check method.

If you are buying residential property, you can use direct comparison as it is the most commonly used primary method. So if you are valuing a 3 bedroom house, you would need to do some research and find 10 comparable sales.

A question might be, where do you find these sale results? If you have been tracking the market for some time, you would have inspected properties that have sold. If that is the case, then you can simply call the agent and kindly ask for the sale prices. Auction results are also posted in the Sunday papers or you can check them out online on each state’s real estate institute website.

Once you have found a property that you want to buy – you need to rank your property against the ones that have recently sold. When doing so, you need to take into account the location, land size, building size, condition, quality as other items such as garages, pools and tennis courts.

From here you can put the sales evidence into 3 categories:

1. Inferior to the property I want to buy,
2. Comparable to the property I want to buy,
3. Superior to the property I want to buy.

2 Bed – 1 Bath – Brick – 600m2 – Double Garage – $1.4M – Mar – Inferior
2 Bed – 1 Bath – Brick – 600m2 – Double Garage – $1.415M – May – Inferior
2 Bed – 1 Bath – Brick – 550m2 – Double Garage – $1.395M – Apr – Inferior
3 Bed – 1 Bath – Brick – 625m2 – Double Garage – $1.475M – Apr – Comparable
3 Bed – 1 Bath – Brick – 625m2 – Double Garage – $1.465M – Apr – Comparable
3 Bed – 1 Bath – Brick – 650m2 – Single Carport – $1.48M – May – Comparable
3 Bed – 1 Bath – Brick – 650m2 – Single Carport – $1.47M – May – Comparable
3.5 Bed – 2 Bath – WB – 625m2 – Double Garage – $1.5M– May – Superior
4 Beds – 2 Bath – Brick – 700m2 – Double Garage – $1.575M – Apr – Superior
4 Beds – 2 Bath – Brick – 850m2 – Double Carport – $1.55M – Mar- Superior

There should be a increasing trend in price as you move from inferior properties to comparable property to superior properties.

If you were buying an average 3 bed brick house in this suburb – it is reasonable to expect that you would need to pay between $1.46M and $1.48M.

The direct comparison valuation process is simple once you have the evidence. However as you can see it does take time and effort. The problem with this valuation method is that it can be unreliable with only a small amount of comparable properties sold within a 6 month period. When there’s a property that is quite unique, or within a tightly held area, you may need to use the summation method which looks at breaking up the land, building and improvement values combined. You can cast your net a little wider and use properties that have the same land size but not the same type or size of building, and vice versa.

The final piece of this puzzle is determining what the market will pay, because humans are not computers and will continue to bid with emotion – even when the evidence doesn’t stack up. How do we calculate the emotional factor when it comes to property? There’s no exact science for this, but looking at the market depth is one key way to determine how much competition there will be. If you attend some auctions in the area, take a look at how many underbidders there were. Take notice of how many people are attending open for inspections and ask the agent how many buyers have requested contracts to review. These are little snippets of intel that can help you form a view on the emotion factor, which is a small premium that you’ll need to add to the calculation.

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