FHA Home Loan Appraisals - Sales Comparison Approach

In the sales comparison approach, the FHA appraiser determines value by comparing the property being appraised (i.e. subject property) against properties that have recently sold in the area and are similar in size, age, construction, and amenities.  These properties are also known as comparable properties (or comps).  

The goal of the sales comparison approach is to determine market value.  As stated before, market value is the most probable price that a property should bring in a sale under normal market conditions.  Essentially, the sales comparison approach establishes market value under the premise that a buyer will not pay more for a property than a cost to purchase another similar property in the area (i.e. a comparable property).  

The key to successfully determining value under the sales comparison approach is for the appraiser to identify three to five properties that have recently sold (generally no more than six months since the sale of the property) and are similar to the subject property.  Though it is rare that an appraiser will find exact carbon copies of the subject property, he/she notes any dissimilar features and makes an adjustment for each by using the following formula:

Sales Price of Comp  + or - Adjustments = Adjusted Value

These adjustments may increase or decrease the indicated value as determined by the comparable.  For example, if a comparable property has a heated swimming pool and the subject property does not, the adjusted value would be decreased since the comparable has a positive feature that the subject property does not.  This rule works both ways.  For example, if the subject property has a two car garage and the comparable property has a one car carport, the adjusted value would be increased.  Most adjustments include those made for physical features such as a fireplace, parking, or a pool, locational influences such as proximity to a freeway, greenbelt in the backyard, or located in an exclusive and highly desirable country club, conditions of the sale such as the seller facing foreclosure and had to liquidate the property, and time from the date of the sale (the more recent, the more accurate).  

As a rule of thumb, comparable properties are always adjusted (up or down) to make it as similar to the subject property as possible.  A comparable property that has features or characteristics more valuable than the subject property must be adjusted downward.  A comparable property that has features or characteristics less valuable than the subject must be adjusted upward.

Example:

House A, the subject property, has air-conditioning and a two car garage.  House B, a comparable property, sold recently for $100,000 and has a garage but not air-conditioning (valued at $3,000).  House C, another comparable property, recently sold for $95,000 and has air-conditioning but not a two car garage (valued at $7,000).  House D, another comparable property, recently sold for $114,000 and has the identical amenities and features to House A except that it is located in a better neighborhood.   A summary of the adjustments are as follows:

It is important to note that the accuracy of this approach is dependent upon the appraiser's use of reliable adjustment values.  These values will vary from region to region, amenity to amenity.  Also, large differences in value might suggest that the properties used are not similar enough to be considered comparable.