Price per Square Foot is Unreliable for Estimating Value

Trying to ascertain value in any real estate market is a challenge, in this market it can be next to impossible. Obviously the best indicator of value is the market itself; in short a property is worth what a buyer is willing to pay. While popular, price per square foot is unreliable for estimating value in all but a few situations.

What happens if a property’s market value has to be estimated and the home isn’t for sale, what’s the best method for doing that? An appraisal using comparable sales and paired sales analysis is that answer, and it’s also a different topic – CLICK HERE for an overview. This post and the associated link concerns estimating value using “price per square foot (PPSF)” comparisons; not a reliable method in most cases. The full explanation of why can be seen by CLICKING HERE.

In my opinion, PPSF is best utilized in commercial analysis and with new, newer tract style residential work. It has limited reliability with condominiums and attached construction as well. It is not a reliable indicator for typical existing detached residential construction.

To develop a price per square foot, the standard recipe is cost divided by overall size. It’s assumed that the homes used to derive the unit cost are comparable, although many times all sales are used. Simple idea, except for a pile of variables that could influence the sales used to ascertain the PPSF used to develop value – garbage in, garbage out. A few variables include:

1. condition and appeal of the home
2. size and appeal of the lot
3. location of the lot
4. motivations of buyer and seller
5. upgrades in/absent from the home compared to the subject home
6. definition of subject’s market area and associated area influences
7. accuracy of the data regarding size of homes and subject
8. issues of functional/external obsolescence in the pool of data
9. economic conditions, area reputation of the subject’s submarket
10. influence of distressed sales

There are many many more that play into the mix. Buyers drive the data pool and they in turn are driven by the market conditions. The factors influencing buyers are endless – even seemingly obscure things like availability of mortgages or incentives.

PPSF is used all over the web and data sources to develop estimated values. While on the surface it appears to be reliable, the bottom line is that I don’t place a high value on it and I don’t see it as reliable. The best indicator of value remains the market, for those owners not selling that want an idea of market value, get an appraisal. Please CLICK HERE for the complete article on this topic.