The 9 Principals of Value
June 23rd, 2009
Categories:Home Buyer Education
Numerous economic principles can affect the value of real estate. These are great principles to keep in mind when purchasing and remodeling a home. Where you invest your money can have a large impact on the amount it increases the value of your home. The most important principles are listed below.
9 Principals of Value
- Anticipation
- Change
- Competition
- Conformity
- Contribution
- Increasing and Diminishing Returns
- Regression and Progression
- Substitution
- Supply and Demand
Anticipation
According to the principle of anticipation, the value of the home is effected by the expectation that certain events will occur. These events can increase or decrease the value of the home. Examples include: new freeways, shopping centers, future development or decline of a community. Essentially, the future expected changes in the value of the home are used to alter the sales price today.
Change
Change often refers to future economic conditions and natural phenomena such as tornadoes, fires and floods. The appraiser must be knowledgeable in how the value of the home will be affected by predicting to some degree what will happen economically and in nature. For example, if an appraiser were to appraise a town that gets flooded every 10 years, and the flood destroys half the homes in that area, the appraiser would take into consideration that every ten years brings the possibility of the home being destroyed.
Competition
Competition takes into account supply and demand. Essentially if there are no homes on the market, putting one up for sale would have a dramatic affect on the market because it would be the only one available. The reverse also applies, in a market were too many homes are listed and the selection is great, the demand is lowered and the value of the home is also lowered.
Conformity
this says there is value when a property is in harmony with its surroundings. For example, one home in a single story neighborhood is a two story with three times the lot size of the other single story homes. Because the home does not fit in with the rest of the neighborhood the value of the home is often lowered. Another example would be, home A put $500,000 in upgrades in their home, and the neighborhood on average only put $150,000 in upgrades. The home with the excessive upgrades may sell for more money, but the homeowners of home A will not likely get an additional $350,000 for his or her home.
Contribution
The principle of contribution states the value of any part of a property is measured by its effect on the value of the whole property. For example, installing a tennis court in your backyard might not increase the value of your home as much as if you were to upgrade the outdated kitchen.
Increasing and Diminishing Returns
The law of increasing returns applies whenever money spent on improvement produces an increase in income or value. When the money spent on improvements no longer increases the value of the home, the law of diminishing returns applies. For example, when remodeling an outdated kitchen you spend money on bringing the kitchen to the latest standards, this would be the law of increasing returns. Then you buy and all gold sink to put in the kitchen, the cost of the gold sink would not increase the value of the home by the cost of the sink and therefore would represent the law of diminishing returns.
Regression and Progression
Similar to the conformity principle, regression states a home that is larger, better maintained and/or more luxurious would be valued in the same range as the less lavish homes. The progression principle would apply to the small less lavish home in a neighborhood full of larger and more lavish homes. The smaller home would be valued with the larger homes. Sometimes having the biggest and best in real estate is not worth the investment.
Substitution
Substitution is often used by Realtors in CMAs. Substitution says the maximum value a property tends to set at is how much it would cost to purchase and equally desirable and valuable property.
Supply and Demand
With supply and demand the value of a property is directly effected by the number of similar homes on the market. The fewer comparable homes, the higher the value because the home buyer will have fewer options.
Related posts:
- Three Approaches to Real Estate Value
- Seller's Market in 2009, What's Going On?
- Market Value vs Market Price