What Is Market Value of a House?

Almost everyone has heard the three rules of buying real estate: Location, location, location. Well, it turns out there is more to it than that. While location plays a role in determining fair market value of a home, there are other considerations, such as the market conditions, the condition of a home, how it compares to other similar properties and the price (as justified by an appraiser). If you're not taking out a mortgage, ultimately the fair market value is determined when a seller and a buyer agree on an arms-length purchase price, but since the vast majority of home purchases are financed, we'll stick to that scenario.

Home Sweet Home

So, you've found the home of your dreams in a quiet neighborhood, with a two car garage and on a quiet street; there are other families with children for the kids to play with and a nearby school. The seller is asking $350,000, and that sounds reasonable to you, so you reach an agreement to purchase the house. But first things first...

The Appraisal

To satisfy the bank that is lending the mortgage, you will need an appraisal of the property to make sure the home is worth what you're paying. While you may love the home and location, the bank is putting up its money to let you buy it so the bank wants to make sure it's worth the price you're paying. Banks don't like losing money on investments, so they will dispatch an appraiser to look things over.
The most common method of appraisal involves evaluating the size, condition and amenities in the home you want to buy and comparing those factors to other homes nearby (usually those within a mile radius). This helps you see how the price of your house stacks up against the price of others sold recently or about to be sold. Among the major factors included in the evaluation is the square-footage, the number of bedrooms and bathrooms and any significant structural defects there are, for example, with the roof or foundation. A more in-depth evaluation will be done later by an inspector who will look at major mechanical, plumbing, heating, electrical and other code requirements. In the end, the appraisal will determine the amount the bank is willing to loan you for the house.

What hHappens Next

This will depend on the appraisal. If the appraisal comes back justifying the sale price, all is good and the sale can move forward. If the appraisal comes in lower than expected, the sale price is considered too high to establish a fair market value. Consequently, the bank won't lend you all the money you need. Don't fret, there are several options that can save the deal.

Ask for a Second Appraisal

There may have been some things overlooked by the first appraiser that a second appraiser may catch or evaluate differently. If there is still a gap between the second appraisal and sale price, there are still other options: If there are substantial defects to the home, the current owner may be willing to correct them or reduce the price by the amount needed to make the necessary improvements. Another option might be for the current owner to carry the difference between the appraised amount (the amount the bank will loan you) in the form of a second mortgage. Failing those options, there is always renegotiation of the price.

One Last Thing to Consider

Make sure to check how long the house has been on the market. If, in a relatively stable or growing market, the house hasn't sold in 90 days, it may be overpriced, and there may be more room to negotiate a fair market value than originally anticipated. When a final deal is struck, no matter how the deal is structured, you've established the market value of the home.