Deciphering the VA Lender’s Handbook Chapter 11 Part 4
This question is most frequently asked by sellers who are trying to determine the best strategy for selling their home for as much as possible, but is also asked by many prospective buyers wanting to know how the appraised value is determined. First, some background information: the VA exclusively uses what is called the “Comparable Sales Approach” to determine the fair market value of a home. What this approach entails is an in-depth evaluation of the home itself, then research on similar homes that have recently sold and what they’ve sold for. By comparing the property to similar homes and accounting for the (hopefully small) differences in the properties, the appraiser comes to a conclusion on the fair market value of the home. So how does an appraiser determine what qualifies as a ‘similar’ home?
Well, the Handbook gives the following as the general requirement: “The appraiser must select the three best closed comparable sales available and properly adjust the sale price of each comparable sale for market recognized differences between it and the subject property. The goal is to obtain a VA value estimate that does not exceed the price at which similar properties can be purchased in the current market.” It’s important to note that active sales listings and contract offers are not able to be used as comparables – only closed sales. This is because a home can list for whatever the seller wants; that doesn’t mean anyone’s going to buy it or that it’s a fair price.
So let’s talk about the individual factors that go into determining what qualifies as ‘similar’ to the home being appraised. First, the comparable sales should exhibit a fairly narrow price range. If there’s a wider price range in the comparable sales, the appraiser is required to explain why (if they really are similar enough for a valid comparison, there usually shouldn’t be large price differences). Second, the appraiser needs to be careful on where they are getting their data from – if the data is from someone who has an interest in the sale of the home getting appraised, then the data needs to be verified by an outside source. A comparable sale should be recent; usually it must be within 6 months, and absolutely not longer than 12. If a sale is more than 12 months old, the appraiser is required to explain why he/she used it.
The next factor is location. The closer the comparable sales are to the home being appraised the better. The appraiser is also required to describe their distance from the house being appraised. Now, you may see as you’re looking at the appraisal that one of the comparable sales is 20 miles away from the home you’re trying to buy, and there’s no explanation why. This is probably because you’re buying a home in a rural area, and the market area may be that large. In cities, the appraiser will usually describe the distance to comparable sales in terms of city blocks while comparable sales in rural areas will be described in terms of miles from the home being appraised.
Of all we’ve talked about, the only factor that links the three comparable sales to the house being appraised is location. Price range is one way that the comparable sales are linked to each other. Other factors that are involved are more obvious. For example, the square footage of the home, the acreage of the property, the number of bedrooms and bathrooms, and how recently the interior of the property has been finished (or re-finished), especially the kitchen. The Handbook also outlines that the appraiser can make minimal adjustments based on individual features. However, the appraiser is not allowed to factor in things that have nothing to do with market reaction, such as builder materials cost or project development.
In other words, if you’re a seller, it’s not going to do any good to tell the appraiser that you paid someone $5,000 to remodel your bathroom and $10,000 to remodel your kitchen. However, it may be a good idea to show the appraiser a picture of the old bathroom and kitchen and make sure they know the price you bought the home for with the old bathroom/kitchen. While this is not likely to make a huge impact on the final result, it may positively affect the appraiser’s perception of the house.