Yep, Real Estate Has No “Value”
By Vena Jones-Cox

I got (yet another) Inner Circle Member question this week that was along the lines of (and I’m paraphrasing, because I get similar questions more or less constantly):

“There’s this property I’m thinking of buying. My comps say it’s worth $105,000. I had an appraisal that said it was worth $120,000. An experienced local agent told me it wouldn’t sell for more than $90,000. I’m confused beyond belief.”

How is it possible that the same property in the same neighborhood renovated to the same level can sell for $90,000 or $120,000 in the same month of the same year? That’s a swing of 30% of value, and logic says that this just shouldn’t be.

But it is, and here’s why: real estate is only “worth” what it’s worth to the people involved in the transaction, and that’s highly dependent on a bunch of things that have nothing to do with the bricks, the mortar, the square footage, or the amenities.

The simplest example of this is one we’re all familiar with: the seller who’s so sick of dealing with his property that he sells it for $40,000, even though the after-repaired value is $100,000 and it would only take $10,000 to repair it. In theory, that house is “worth” twice what he’d have in it if he’d just spend the time and money to fix it up; the problem is, because of emotional, financial, or time considerations, it isn’t “worth” it to the seller to do so.

Or, in the reverse, we’ve all dealt with the seller who has a property worth $100,000 that needs $60,000 in work, but won’t let it go for less than $60,000. You can talk until you’re blue in the face to this seller about how his property isn’t “worth” $60,000, but it won’t do any good because it’s not “worth” it to the seller to trade his property for less than $60,000 in cash.

Another example is one you’ve run across if you’re a wholesaler: when you’ve carefully done your evaluation, KNOW you’re offering a particular property at a great price, and yet, some buyer tells you that he wouldn’t pay more than ½ of what you’re asking. Said buyer might state his objection as, “It isn’t worth what you’re asking”, but what he really means is, “I don’t like this area, or the kind of work this house needs, so I wouldn’t PAY what you’re asking.” In other words, it’s not “worth” that to ME.

Despite all the appraisal and BPO professionals out there, the truth is that real estate has different uses, and therefore different “values”, to different people. It doesn’t matter that the house next door to yours sold for $300,000—yours isn’t worth $300,000 unless you find a buyer who thinks it’s worth $300,000 TO HIM. And by the way, even that doesn’t matter unless that buyer is ready, willing, and able to buy.

I’ve been thinking about this a lot lately, primarily because I spend a great deal of time evaluating single family homes in rental areas. In these areas, it’s pretty common that every single sale for the last 4 years has been a distressed sale of some sort—usually a short sale or REO—and that exactly zero properties have sold in “after-repaired condition”. Instead, what I see is a bunch of sales of properties in various states of junker-ness that have sold for somewhere between $2,000 and $20,000.

The problem, as you know, is that the fact that the highest sale prices in an area like this are in the $20,000 range don’t make the properties “worth” $20,000.

It’s entirely possible that one property that sold in this range needed less than $5,000 in work to make it rent-ready (thus making that buyer’s opinion of value something like “at least $25,000), while another might have needed $20,000 in work (meaning that the buyer of that property felt it was worth “at least $40,000”)—and we don’t get to know which were which.

So what IS a property “worth”, then?

Unfortunately, as much as you’d like an answer to that question, the problem is that it’s the WRONG QUESTION. The right questions are:

WHO is going to buy it, and what is their use for it?
Under what TERMS will they buy it?
Let’s say that the property in question is that imaginary $20,000 rental that needs just $5,000 in work to make it rent-ready. Let’s further say that the property will rent for $700/month and that the taxes and insurance are $100/month. The answer to question #1 is you, and your use for the property is as a rental. The answer to #2 is, at $1 per month for 100,000 months.

Is the property “worth” that to you? I mean, the “price” is $105,000—5 times what you can prove the property is “worth” by the traditional means of looking at comps. But I bet you’d take it anyway…and if not, call me, ‘cause I’ll take it.

The key to this (admittedly over-the-top) example is really in what the property is “worth” to someone else—your tenant, who thinks it’s “worth” $700 per month to live there. The actual value of the property, as we traditionally think of it, doesn’t matter at all in light of what you’re trading--$5,000 cash and $1 a month—for what you’re getting--$599 a month in cash flow forever.

The big problem with “value” comes when you plan to treat the property as inventory, rather than an investment. It makes a BIG difference whether a house is worth $90,000 vs. $120,000 when your plan is to renovate and resell it to a qualified homeowner, who must not only agree that the property is worth $120,000 TO THEM, but must also be able to get a professional appraiser to agree that a $115,000 loan from the bank is a good investment FOR THE BANK.

And guess what—there’s more that affects your ability to sell that house at $120,000 than just the comps in the area. There’s how much marketing you did (in other words, how many different potential buyers got to decide whether or not the house was worth $120,000 to them, or, more accurately, $6,000 down and $800 a month to them); whether you yourself offered easy financing on the property; how well it was renovated and staged; and a number of other factors (mostly emotional, not financial) that have less to do with some objective “value” and more to do with “value to the buyer”.

It’s probably time to stop thinking so heavily in terms of “what’s it worth” in our business. Yes, we need to be able to look at comps and repair estimates and come up with a guess as to the value, but at the same time, we need to realize that “value” in real estate is very much in the eye of the beholder.

Instead, we need to think along the lines “what are ALL the values of this property: as a residence of a homeowner, as a residence for a tenant, as a residence for me, as something I can trade for money or other properties” and buy at prices that make sense to US under the conditions and terms that they’re being offered.


Reprinted with permission of Vena Jones-Cox. To get more free articles and tips, subscribe at www.TheRealEstateGoddess.com