Appraising The Overimprovement

[Have Laser-Will Travel]

Fannie Mae Over-Improvements

An over-improvement is an improvement that is larger or costlier than what is typical for the neighborhood. For example, a 4,000 square foot home located in an area of homes where the typical home is 2,000 square feet may be considered an over-improvement. Furthermore, a home with an in ground pool in an area where pools are not typical may also be considered an over-improvement. The appraiser must comment on over-improvements and indicate their contributory value in the Sales Comparison Approach adjustment grid.

The fact that the property is an over-improvement does not necessarily make the property ineligible. However, lenders must review appraisals on properties with over-improvements that may not be acceptable to the typical purchaser to ensure that only the contributory value of the over-improvement is reflected in the appraisal analysis.

It seems like it would have been better is they said an over improvement is larger or costlier than what the typical RANGE is for the neighborhood. Half of the homes in a neighborhood are not "typical" when there is variety in the neighborhood. And just because it's bigger, doesn't mean it has a diminishing return on value or a marketing problem. So what do they really want to know? I dealt with by calling it an overimprovement to make them happy and then addressed A) its marketability on the whole and the contribution to value from its GLA above the normal range. I hope that makes them feel good. xD

 

[Have Laser-Will Travel]

Fannie Mae Over-Improvements

An over-improvement is an improvement that is larger or costlier than what is typical for the neighborhood. For example, a 4,000 square foot home located in an area of homes where the typical home is 2,000 square feet may be considered an over-improvement. Furthermore, a home with an in ground pool in an area where pools are not typical may also be considered an over-improvement. The appraiser must comment on over-improvements and indicate their contributory value in the Sales Comparison Approach adjustment grid.

The fact that the property is an over-improvement does not necessarily make the property ineligible. However, lenders must review appraisals on properties with over-improvements that may not be acceptable to the typical purchaser to ensure that only the contributory value of the over-improvement is reflected in the appraisal analysis.

It seems like it would have been better is they said an over improvement is larger or costlier than what the typical RANGE is for the neighborhood. Half of the homes in a neighborhood are not "typical" when there is variety in the neighborhood. And just because it's bigger, doesn't mean it has a diminishing return on value or a marketing problem. So what do they really want to know? I dealt with by calling it an overimprovement to make them happy and then addressed A) its marketability on the whole and the contribution to value from its GLA above the normal range. I hope that makes them feel good. xD

I think a lot of people on this thread are over-thinking the over-improvement. There's an old engineering term that's tried and true, "Keep it simple stupid." If it's truly an over-improvement due primarily to size (which I think is where you're going with this), then the market will only give you a marginal premium for that additional square footage. So what does that GLA adjustment look like?

Well, first, you must (and I can't emphasize this enough) find a bracketing comparable or two. It will most likely come from a superior neighborhood. And that neighborhood will command a higher land value. Estimate it. It's your location adjustment for that comparable. Next, select the largest and most similar home sales in your neighborhood. Account for all other factors like bath count, pool, outdoor living, parking, etc. You should probably go ahead and deduct any concessions. What you're left with is the GLA adjustment. This is where you play with the numbers. Pair your bracketing comparable with all of the other comparables to determine the GLA adjustment/sf that best smooths the data. And what you'll find is a relatively low GLA adjustment which effectively illustrates the marginal premium the market is willing to pay for that additional square footage. It works every time.

Hopefully, your conclusion of market value will be close to the top of your neighborhood, maybe even a little higher (and just because it's higher doesn't make it wrong). Explain the steps you took in detail to your client in the narrative. If you want to get fancy, cite the relationship between the largest property sale from another neighborhood to the predominant and see if that relationship is similar to your conclusion. That would add some credibility. Over-improvements are always subjective because the market reacts differently on any given day on any given property. But these are the steps you can take to try and apply some logic to it. All y'all can disagree but this is how I've handled it.

Remember, residential buyers are unsophisticated and they're not logical like commercial investors. But they will know not to pay as much for your home as they would for a similar home in a superior neighborhood. That's the relationship you are trying to quantify and convey to your intended user(s).

Excellent! A lot of this I did except I used a different approach to isolate the GLA adjustment factor. I've had enough this weekend to want to delve into it but, thank you!

 

[Randolph Kinney]

It seems like it would have been better is they said an over improvement is larger or costlier than what the typical RANGE is for the neighborhood.

From the Appraisal of Real Estate:

The principle of balance also holds that both the relationship between land and improvements and the relationship between a property and its environment must be in balance for a property to achieve its optimum market value.

Overimprovements and underimprovmeents can lead to functional obsolescence that may need to be accounted for in sales comparison, income capitalization, and cost approach analyses, but differently in each approach.

So, you need to demonstrate that functional obsolescence exists due to its oversize GLA for your subject to conclude it is an overimprovement.

If the cost approach (using land sales) is significantly higher than the sales comparison approach, you have a situation that is indicating functional obsolescence.

If the income approach does not add any rental value beyond a certain GLA size, that would indicate an overimprovement and thus an item of functional obsolescence.

Functional obsolescence is caused by either a deficiency or a superadequacy.

Principle of regression. The worth of a greater-valued object is reduced by association with many lesser-valued objects of the same type (super adequacy or overimprovement).

In the sales comparison approach, it is that incremental change in price of the additional GLA that yields next to zero change in price.

 

[J Grant]

The OP is assuming an over improvement (funct obs) before even doing the research, which is the problem . Though the subject may be atypical for the neighborhood , or an "overimprovement" in Fannie terms ( best house in neighborhood), it MAY NOT be an overimprovement in valuation terms ( funct obs/loss of value for its site /location)

Do the research, let the market tell whether theThe subject may be an over improvement, or may be a super adequacy, or may simply be the nicest house in a neighborhood with typically motivated buyer for THAT type of house wiling to pay more for it.

The fact that the subject may sell for less than similar amazing detail homes in a superior price point neighborhood, is a location adjustment, not necessarily a funct obs adjustment .

Because one may find that homes of amazing finish (which can include extraordinary modern architecture, sell for more than "regular " Luxury homes in their respective neighborhood . If that is not the case, then perhaps the extraordinary home is an over improvement or super adequacy. But let the market tell, don't pre assume it..

Grid out in rough form sales of "well finished homes from subject area and well finished homes from competing areas comps, see the price difference to derive a location.adjustment for NEIGHBORHOODS.

Then gird out in rough form the amazing architecture homes from the better neighborhoods vs ordinary finish homes from those same better neighborhoods. That will give the adjustment ratio for QUALITY .)

They are two different adjustment, applied in 2 different places on grid. One is a location adjustment , the other is a quality or design/appeal adjustment.. Comparing what craftsman home sold for in subject neighborhood vs what regular well finished home of similar sf sold for in subject neighborhood will help with quality adjustment since subdivision influence is the same.

Lay relevant comps in rough form out on the grid and make some adjustments and results will emerge. May start with 8-10 comps, can eliminate some later but retain them in work file and refer to them as reference.

Land sales can give additional support but this is an improved property after all and plenty of improved properties in area sold to get data from.. Ask RE agents as additional support. they have encountered buyers for these types of homes before or listed some and seen buyer reaction to listings. It''s not all about price, a special type house may have longer market exposure if it's a niche market for these homes...or a much shorter market exposure than typical if high demand exists. Again, we cant' assume, have to patiently dig around with research to get the answers from the market.

 

[Artemis Fowl]

Scrolled quickly so I apologize if I missed something relevant.

Do you think the typical buyer for this property is someone who would consider other properties within the immediate neighborhood? If your answer is no then this may be a market identification issue moreso than an over-improvement issue. Many of the suggestions still apply but defining your market is a BIG 1st step to finding a solution.

 

[Artemis Fowl]

I have experienced an elephant in a neighborhood of dis-similar homes. That was not its market...its market was scattered around over multiple communities because that's where competition for its buyer-type existed. There was no over-improvement, only locational considerations.

 

[Have Laser-Will Travel]

From the Appraisal of Real Estate:

The principle of balance also holds that both the relationship between land and improvements and the relationship between a property and its environment must be in balance for a property to achieve its optimum market value.

Overimprovements and underimprovmeents can lead to functional obsolescence that may need to be accounted for in sales comparison, income capitalization, and cost approach analyses, but differently in each approach.

So, you need to demonstrate that functional obsolescence exists due to its oversize GLA for your subject to conclude it is an overimprovement.

If the cost approach (using land sales) is significantly higher than the sales comparison approach, you have a situation that is indicating functional obsolescence.

If the income approach does not add any rental value beyond a certain GLA size, that would indicate an overimprovement and thus an item of functional obsolescence.

Functional obsolescence is caused by either a deficiency or a superadequacy.

Principle of regression. The worth of a greater-valued object is reduced by association with many lesser-valued objects of the same type (super adequacy or overimprovement).

In the sales comparison approach, it is that incremental change in price of the additional GLA that yields next to zero change in price.

Thank you Randoph. Saved! FNMA loosely defines an overimprovement as one that is larger and costlier than what is typical, which seems like a poor definition to me. The Dictionary of Real Estate Appraisal relates it more to achieving optimum land value. The Principal of Balance appears to ask for optimum value from the property as a whole. These definitions seem fairly arbitrary however, your very last comment seems to be a way to more precisely determine an overimprovement.

As a side note, I have realized something from this assignment; although the price per sq. ft. GLA tends to drop as GLA increases, this is not necessarily the result of diminishing returns. The reason is that it is not really the price per sq. ft. GLA. It is the price per sq. ft. GLA for the entire property including factors such as lot, view, condition, etc. As the GLA rises, I think what is often being seen is a more realistic reflection of the price per sq. ft. GLA as the other contributions to value diminish in their ratios relative to total value.

 

[Randolph Kinney]

FYI - When the range of GLA is large, a linear $/sf will not adjust property. It is the power law of scale that applies. You can see this in the M&S residential cost guide, for example, good quality single story stucco 800 sf to 4000 sf. So your comp in the neighborhood being 2000 sf GLA and your subject being 3000 sf GLA, if you bracket the subject with a larger comp from the superior neighborhood, it will have a smaller $/sf adjustment than the 2000 sf GLA, assuming you don't have functional obsolescence.

 

[Terrel L. Shields]

a relatively low GLA adjustment which effectively illustrates the marginal premium the market is willing to pay

I am reluctant to dumb down GLA adjustments for the simple reason that implies you are lumping functional utility with a lower SF adjustment because you are doing exactly that. To me I would prefer to address the functional separately, but I understand because UWs are generally too stupid to comprehend the situation and hate across the board adjustments. By disguising FO in GLA, you may avoid one stip but then run afoul the CU computer wanting to know why your GLA adjustment is below other homes appraised in the neighborhood. Catch-22.