Price-per-square-foot is widely used as a basis for estimating value, and it is also one riddled with problems.
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One can easily argue, and strongly, that price per square foot has no value in ascertaining value at all. Many variables inherent in deriving price per square foot are insignificant and that renders conclusions based upon them all but worthless. There are of course exceptions; new tract construction, tract condominiums and on occasion newer commercial properties. This article considers existing homes as it is frequently applied broadly and quite inaccurately.
In most cases, price per square foot is derived by dividing sale price by total living area. Simple math for a seemingly simple conclusion, but consider just a few of the more obvious and not so obvious variables (in no order):
- Sale price. What were the circumstances of the sale? Distressed? Arm’s length? Motivated seller or one not needing to sell? Closing costs? Were they included or deducted as a concession?
- Buyer. Is this a measured purchase or one by a relo in with a weekend to buy? Were concessions like closing costs, repairs, personal property added to the price? Were concessions made for cash?
- Buyer and seller. Are they educated about the process? Working with competent agents? Savvy with regard to financing and how that may impact the price?
- Square Footage. What is the source of the living area? Is it accurate? Was there a finished basement included in the figure? Does the living area meet FNMA guidelines? Who measured it?
- Condition and Updating. What was the condition of the home? Was it updated? What level of maintenance is there?
- Quality. Is this a custom home, tract home, modular or even mobile? What level are the construction and finishing materials? What about complexity of design; ranch vs custom? Ceiling height? Energy features? Granite or Formica? Brick or frame?
- Features. Is there a basement? Finished? How is it finished? Deck? Pool? Garage or carport? Home theater?
- Site. Is the site functional? Improved with hardscapes? Any adverse external influences? Public utilities? Overall size and terrain? Features and appeal?
- Market Trends. What is going on in the micro market? What is the competing market area? Is it clearly defined?
- Old and New. Are new homes being considered with older existing? Are builders providing incentives? Were the lots purchased at a discount? Is it a mixed community of older and new homes? Does that impact appeal and ultimately price?
- Economic. What is the economic status of the micro and macro market? Labor costs? Union or non-union? Illegal workers paid in cash? Fluctuating material costs? Unfinished residential and commercial projects?
There are obviously more, these are just the ones that come to mind. The most significant one however is the SUBJECTIVITY around the entire process; there are no uniform guidelines because there simply cannot be. It is difficult enough to find a group of appraisers to agree when evaluating a single home, never mind tossing real estate agents into the mix. Experience, opinions, data sources….all play a role when evaluating a single property, the idea that this can be done for an area with the variables inherent in real estate simply doesn’t hold up.
Resist the urge to selectively apply the data frequently pushed by national sources; Case-Shiller, Zestimates and similar macro analysis is good media fodder, however it is all but worthless at the micro market level. Understand the limitations when trying to estimate the market value of a property; no two parcels are the same and the variables are significant. The single most reliable indicator of market value is the market itself; and that is a constantly moving target.
About Hank Miller
