Should Adjustments Actually Be Done?
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How much credit should we give ourselves when it comes to making adjustments? Making adjustments is controversial. USPAP says nothing about adjustments – it does not require us to make them. They are a GSE construct. So, should we real estate appraisers stop making adjustments? Clients pay us for opinions of value, so our adjustments are really opinions based on what the market tells us (or that’s what we should base them on), but they are still opinions we form; they are not facts we find. So, maybe, should we stop making adjustments?
We derive our adjustments from sources such as paired-sales, regression, ranking, and so forth. There are classes, seminars, and webinars out there on making adjustments (I know there are – I’ve taken them). Yet, since real estate markets are not logical and have no basis in science, it’s highly possible that the adjustments we derive are overrated in the sense that we impart to them too much importance. I wonder if we shouldn’t get rid of adjustments, and the entire adjustment process, completely?
So, if not for the adjustment process, where does value actually come from? I am a strong advocate for appraisers. I firmly believe in the importance of, and the need for, what we do. I also believe that you cannot throw a bunch of numbers into a computer and then expect the results of that to be accurate. There is something to be said about the experience, the qualifications, the education of the appraiser, the human brain & heart, to pick the proper comparables and to do their jobs as appraisers correctly. All the algorithms in the world cannot add the human essential into the results of a computer run. Remember, we do not value property, we do not value property rights. Rather, we value people’s reaction, people’s opinion, to that property and to those rights.
But, what about not doing adjustments? Appraised value is not solely the result of the adjustments process. Rather, it comes from the proper selection of comparable sales, etc. This is the most important component of the appraisal process (especially in rural areas where there are relatively few sales). Value comes mostly from comp selection, not adjusting the comps. This is not to advocate that comps never need adjustments. They may. Rather, it is to say the best comps need the fewest adjustments.
My support for this conclusion is that on some appraisal forms (clearly not Fannie Mae, et al), there is no place for adjustments; just space for the appraiser to show the differences there are inherently between properties (but not to quantify those difference. Lest you start jumping down my throat, yes this conclusion is totally USPAP compliant (according to the experts I’ve consulted) since USPAP does not require adjustments. USPAP does not even mention the word adjustment (I’ve done the word search in a PDF copy of the USPAP document). Thus, adjustments are a requirement of specific lenders, not of appraisal theory, not of state statute, and clearly not of USPAP. So, an appraisal without adjustments, and an appraisal report without adjustments, are both totally acceptable (unless your client demands you show quantifying adjustments).
Recently, in my office, I gave my associate an appraisal assignment that she completed in the traditional manner, which included adjustments. She had a copy of the purchase and sale agreement, as well as knew the contract price. I knew about the agreement, but for my purposes I chose to ignore it until after I had reached my value opinion. So, I did my own sales search for comps, choose them, and then, via my gut alone, came up with what I considered to be a credible value opinion. So you’ll know, the purchase and sale agreement had a contract price of $250,000 which, we both concluded, was under-market. My associate, via the traditional appraisal methods, came in at $265,000. Without a “formal” set of adjustments, just using qualitative analysis, I came in at $270,000. I did not see her appraisal until I had deduced my value conclusion. My choice of comps was different from hers, too (we had only one comp in common). Again, I was not aware of the contract purchase price until after I deduced my value conclusion (without the aid of a formal adjustment process).
There is about a 6% difference between $250,000 and $265,000. There is about a 7% difference between $250,000 and $270,000. There is about a 2% difference between $265,000 and $270,000. So, my associate and I were very close to each other; and we were not that far away from the contract price. Again, we both agreed the contract price was low. I conclude this range of difference is normal and acceptable.
Now, I realize this is nothing more than an anecdote. There was nothing scientific about this experiment. The same type of comparison on a really complicated property might have given different results. But, just so you’ll know, we did this again on another property and came up with a similar split between the appraisers.
So, does this tell us that adjustments are bogus? That the adjustment process is artificial? If you carried out the same experiment (with the same unscientific approach), would you achieve the same results? I don’t know, and will not speculate. These results, however, have led me to question if the adjustment process is all that necessary and, if it is not, why do the GSE lenders want us to go thru it?
Extracting adjustments from the market results, at best, in a range of indicated adjustment quantities, but never a single dollar figure. This is because the real estate marketplace is not rational, and it participants generally do not follow the dicta of the definition of market value. Thus, we end up with dollar ranges when we try to determine how much say, a view, contributes to overall value.
Therefore, I must grab hard onto that third rail, when I say that the adjustment process has a subjective component to it. (There! I said it! The deed is done!) In layman’s (layperson’s?) terms, when it comes to adjustments, there is some guesswork involved. Now, I know I’m going to get a lot of hate mail on that conclusion, but that’s OK. I know some of my “experts” are going to question me on this, but that’s OK, too.
It’s OK because if appraisal were nothing more than crunching the numbers, we would have no purpose, no value, and AVMs could do what we do (a lot faster and a lot cheaper). Nevertheless, since appraisal is not merely about crunching numbers, but about deducing from the market data a unique market value, then we are necessary. We are important to the process. We are a necessity to our clients.
Adjustments are not the end-all and be-all of market value. This is because, comp selection is the key to a credible opinion of market value, not how elegantly or scientifically we choose adjustments (and remember, I am a rural appraiser). This is simply because the best comps would merit no adjustments at all. Until such perfect comps come along, however, we still, somehow, have to account for the significant differences there are between a subject and the comps. And, when all is said and done, there is a subjective component to that accounting. I’d love to see the day when we no longer have to take comp photos, nor make quantitative adjustments.
For more information on this subject, please download and listen to The Appraiser Coach Podcast Episode: 148 Should We Really Be Making Adjustments