choosing comps

Does paying off Mello Roos early increase value?

May 25, 2017 By Ryan Lundquist 27 Comments

What happens when an owner pays off Mello Roos early? Does that mean the property can sell for more? Let’s talk about that. If you’re not in California, just know Mello Roos are taxes imposed on newly constructed communities to help pay for infrastructure like streets, schools, and parks. So over a period of usually 20 years, the owner might have an extra $1,000 or so in taxes to pay each year.

Scenario: Imagine an owner has $20,000 in Mello Roos taxes over the next 20 years and decides to pay them off right now instead of waiting. Is the house now worth $20,000 more?

Things to consider about value & paying off Mello Roos:

1) Expecting the full $20,000: When sellers do something to their property, they often expect buyers to pick up the tab of whatever the price was. This is true for kitchen remodels, landscaping, bathrooms, and even Mello Roos. In this case the seller would expect a buyer to pay $20,000, but that’s probably not realistic.

2) Logic & 20 years of payments: Buyers often stay in homes for less than 10 years, so it’s unrealistic to think most buyers are going to pay for the future savings of 20 years worth of tax payments in one instant. That’s disappointing to sellers, but doesn’t it make sense? It’s just not logical for someone to fully reimburse the seller for a bill they might not actually be paying for the next 20 years. Side note: This reminds us of solar a bit because buyers probably aren’t going to pay the full cost of the system in one instant either.

3) Comps & adjustments: A property with no Mello Roos payments is going to have a marketing edge at the least because it’s essentially less expensive to buy the house compared to others. At best there could be some value there too, though it’s going to be hard for an appraiser to support a Mello Roos adjustment because it’s not easy to find comps where sellers have paid them off. In an ideal world we’d have three model match sales without Mello Roos so we can analyze whether these homes really sold for more or not. If we don’t have sales, but it seems clear the market is willing to pay more based on the number of offers, price level of offers, feedback from agents, logic, data from other neighborhoods, etc…, we can always look at the range of value in the neighborhood for similar homes and choose to reconcile the subject at a higher tier of value. Thus it’s important to realize appraisers might not always give a specific adjustment, but they can still recognize an asset by reconciling the final value to a higher level (if there is support to do that). It would be nice if there was one quick formula we could apply to spit out a perfect adjustment here, but formulas wouldn’t work in every neighborhood, price range, or market. Like all things in real estate, we have to know how to think through issues and then look to the market for the answers.

I hope this was interesting or helpful.

Questions: Would you recommend paying off Mello Roos? Have you seen a value increase because of Mello Roos being paid off? Anything to add to the conversation?

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Cherry-picking comps & being connected to the neighborhood

May 3, 2017 By Ryan Lundquist 14 Comments

On paper it looked like value was going to be so much higher. Why? Because comps to the north were easily 10-20% higher, and even Zillow came in $100,000 above the appraisal (ahem). The big cause of such a legitimately lower appraisal boiled down to one thing. Location. Today I want to show a situation where a small section of the neighborhood was blocked off from the rest, and it was a big deal for value. Have a look below and let me know what you think. Anything to add?

land park neighborhood sacramento

The value issue: As you can see, this pocket of housing in the Land Park neighborhood isn’t accessible from the rest of the neighborhood besides a frontage road next to I-5. In other words, this section is disconnected. What sort of impact is there (if any) for being cut off from the rest of the neighborhood?

land park neighborhood sacramento 3

Methodology when only 5 sales in 5 years: When appraising something in this section, there were zero sales over the past 2 years and otherwise only 5 sales in the previous 5 years. This means I had to really study older sales to understand how value works. Here are the five sales:

land park neighborhood sacramento 4

What I ended up doing was comparing sales in this small pocket with similar sales at the same time in other areas of Land Park. Also, my goal was to find other patches of housing in the expanded neighborhood that seemed to sell at the same level. If I could find other areas selling at similar price points through the years, then current sales in those areas are probably my best comps for today.

land park neighborhood sacramento 5

land park neighborhood sacramento 6

Conclusions: After looking through all five sales I observed the following:

1) Some of the lowest prices: This small housing patch has some of the lowest prices in the neighborhood as shown with the yellow dots in the graph below.

Land Park trends by Sac Appraisal Blog

2) 10-20%+ easily: If I were to cherry pick “comps” directly to the north, there is easily a 10-20%+ price difference for otherwise similar houses. The truth? Location matters. So does being connected to the rest of the neighborhood. In some cases a few streets that are disconnected might not sell differently than the rest of the market, but it could also be a big deal like the example above. The truth is if we cherry-picked nearby higher sales, the value would’ve been inflated by $60-80K+.

3) Limited by 90 days: It’s tempting to only look at the past 90 days of sales, but that can be far too limiting – especially in a situation like this. Also, a 5-minute comp check isn’t realistic. At times we might spend hours researching before beginning to understand how the immediate neighborhood compares to the rest of the market. We might even call colleagues and seek out other opinions too.

4) True comps: Other patches of housing in Land Park that tended to command similar prices were very busy streets or homes having a huge influence from nearby commercial properties (or heavy fixers that would have otherwise sold at much higher levels in average condition). I don’t say this to be negative about any of Land Park, but only to be objective as an appraiser trying to explain how value works in some areas compared to others.

I hope that was helpful.

Two classes I’m teaching in May: By the way, I’m teaching a class at SAR in a few weeks called How to Think Like an Appraiser. I’m also doing a blogging class. Click here for details.

Presentations - sm

Questions: What point above stands out to you most? Anything else to add? I’d love to hear your take.

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When value is higher on one street than another

March 1, 2017 By Ryan Lundquist 27 Comments

The cookie cutter tract homes are the easy ones, but sometimes value can change dramatically from one street to another – especially in older eclectic areas. Maybe you’ve seen this before after pulling comps and finding a huge disparity in prices. Today let’s look at an example of this happening to me recently. Any thoughts? I’d love to hear your take.

value higher on one street - sacramento appraisal blog

Values are sometimes all over the place, and that’s exactly what I saw when appraising a house in Carmichael. Take a look below at the graph. How do you think the subject street fits into the market?

Subject street in Carmichael - Sacramento Appraisal Blog

Value Conclusion: When we look at the graph with over 17 years of neighborhood sales, it’s clear properties on the subject street tend to compete toward the mid-to-higher end of the market range (even when they aren’t all that updated). Keep in mind every sale on the graph is between 1600-2100 sq ft, so we are looking at a tight range over a long period of time. You can also see there is a range where most properties have been selling between $350,000 to $500,000 lately.

Some tips for seeing the market in eclectic neighborhoods:

1) Pay close attention to subject street sales: There were 7 available sales for me to look at on the subject street over the past two decades. This might seem limiting, but it’s much better than zero, and ultimately it means I have seven data points that might help me see the context for how the subject street fits into the market. Of course we always have to use good professional judgment and not get caught up in giving too much weight to very little data.

2) Look through years of data: In an eclectic area where values seem to be all over the place it’s a good idea to study the market by looking at years of sales. The goal is to know how value works and be able to see which streets or types of properties are fetching price premiums. When looking at areas like Fair Oaks, Carmichael, and East Sacramento, this is very key. In this case I appraised the subject property around $450,000, but there were sales within blocks that were coming in between $350,000 to $375,000 with seemingly superior upgrades too (probably why Zillow had this one at $378,000). After studying the market and carefully comparing previous sales on the subject street it was clear the subject street sales were competing at a higher price tier compared to other streets. It would have been a shame if I hastily pulled up three “comps” and brought this one in at $350,000 when the market was clearly willing to pay more.

3) The feel of the street: On paper it might look like we are pulling good “comps”, but then after driving by other streets we might see a lower quality of construction, or unkempt homes, or maybe a negative influence from commercial property.

4) Real estate community: It’s helpful to talk with other real estate professionals who know the neighborhood. I find most real estate agents and appraisers are actually pretty helpful when you call to say, “Hey, I have a question. May I bend your ear for a minute?” I realize not everyone is receptive to talking (lame), but that doesn’t take away the importance of building good relationships in the real estate community so we can exchange information. My advice? When people call you, be the type of person you wish everyone else was. Bottom line. All things considered, it is worth noting we still have to be careful not to impose someone’s perception of the market on our value. So let’s seek insight from others, but let’s also not forget to look at actual data and support the value we say exists.

5) Learn to graph so you can see the market: The graph above was part of my research and it helped me visualize the market. I know, here I am mentioning graphing again, but I only do that because it’s revolutionized the way I see the market. Anyway, here is a tutorial I made for learning to make a basic scatter graph in Excel. If you didn’t know, there are a couple of programs you can use to quickly export neighborhood data from MLS to make graphs. I might suggest looking at Don’s 1004MC program (for locals and some other states (right now his site is down)) and Trendsheet (covers many states). These programs are built for appraisers, but I tell Realtor friends all the time to consider using them and just skip the appraiser stuff.

UPDATE: I was asked by several people in the comments and by email how to make a graph like the one above, so I made a video tutorial. Check it out here or below.

I hope that was useful or interesting.

Questions: What is #6? Did I miss anything? How do you figure out if there is a value premium for a certain street? How do you avoid choosing the wrong comps? I’d love to hear your take.

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Three dangerous ways to choose comps

January 17, 2017 By Ryan Lundquist 21 Comments

It’s easy to get into value trouble when choosing comps, and today I want to highlight three ways to do that. I’ve observed each of these methods very recently, which is why I hoped to kick around some ideas together. I could have just as well entitled this post, “Three ways appraisers DON’T choose comps.” Any thoughts?

choosing comps for appraisal - sacramento appraisal blog

Three dangerous ways to choose comps:

1) Price: When putting a value on something, searching by price is a quick way to NOT see the full picture. For instance, if we pull comps for a $750,000 sale by looking at all sales between $725,000 and $775,000, what we end up getting is a limited view of one price range. Have we truly found any similar properties or just the ones that have sold in that range and happen to support the contract price? The danger of searching by price is we can end up letting a few high sales impose a value on a property instead of letting similar homes paint a picture of value. This is why sometimes appraisers disregard the “comps” they are given from the real estate community because they are only similar in price rather than square footage, age, condition, location, upgrades, etc… If you are in the habit of searching by price in MLS when pulling comps, I might recommend searching by square footage instead (or by a parameter you think will help you make quality comparisons).

2) Capitalization Rates: The 2-4 unit market has been heating up in the Sacramento area. In fact, the new Yardi Matrix 2017 Winter Report says multi-family rents in Sacramento will grow by 9.6% this year. If that’s how things shake out, we’ll basically have seen a 30% increase in rent over the past few years. Wow!! Anyway, I’m finding news of the hot rental market is causing some 2-4 unit properties to be priced according to unrealistic cap rates instead of realistic comps and rental income (or even realistic cap rates). What I mean is sometimes comments in MLS say “check out the 8% cap rate” when the neighborhood really isn’t getting rates that low. Maybe surrounding properties are showing rates closer to 9-10%. This might not seem like a big deal, but when we plug an 8% rate into the cap rate formula instead of a realistic 9-10% rate, the value can be substantially different. My advice is to be cautious about imposing a cap rate on a property.

3) Price Per Sq Ft: In real estate it’s easy to see a sale down the street and then apply the price per sq ft from the sale to the subject property. But what if the price per sq ft doesn’t make any sense for the subject? The truth is smaller homes tend to have a much higher price per sq ft than larger ones, and dissimilar homes might actually have a far different price per sq ft too. Thus my advice is to be cautious about imposing a certain price per sq ft on a property when searching for comps. Let’s pay attention to price per sq ft figures, but at some point we have to ask the question, what are similar properties actually selling for? By the way, if you haven’t seen my Starbucks cups analogy, it’s a fun way to think about price per sq ft.

The Big Idea of Imposing: All of these methodologies essentially help impose a value on a property because we end up applying a metric or price range to comp selection instead of looking for what is truly similar. Thankfully there isn’t only one way to search for comps, but no matter what we do it’s important to try to be objective and discover value rather than doing something that might impose value on a property. Know what I’m saying? By the way, here is how I tend to choose comps as an appraiser just in case you’re peeved I only told you what not to do.

Blogging Class on Thursday: In a couple of days I’m teaching a two-hour class at SAR called Successful Real Estate Blogging. This will be incredibly practical and my goal is for you to leave with insight on how to be effective. Click HERE for details.

I hope that was helpful or interesting.

Questions: Did I miss anything? Anything you’d add? I’d love to hear your take.

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choosing comps