What is Fair Market Value?

In this day of gyrating housing values, it’s interesting to think about the concept of fair market value. It is easier to talk about in theory than to ascertain what it means in the real world.

In many parts of the world the price of the product is determined on each trade. When a buyer goes into a store, the seller offers to sell at one price and buyer offers a lower price, perhaps much lower. Ultimately, they agree on a price and that becomes the market price.

In those economies, the haggling that accompanies trade actually has important social overtones. There is a ritual that goes along with buying and selling and both parties enjoy the process.

In our economy a store puts merchandise on the shelf and puts a price tag on it. Shopping consists of going to different stores to check those price tags. But when a customer buys a product at the store’s price, is that the market price?

I don’t think so. People do not always buy at the lowest price or the guy with the low price would get all of the business! Factors such as service, convenience, guarantees, return policies, and a myriad of others enter into the buying equation.

Americans don’t like to haggle over price. Have you been to a foreign country and tried to buy a pot or a belt or handbag? It was offered at one price but you knew that the seller would take a much lower price. But I can practically guarantee that you felt uncomfortable while engaging in commerce on unfamiliar turf. You may wonder to this day if you paid “the right price” or if you could have gotten a better deal had you been a better trader.

In real estate, Americans are on unfamiliar turf because we are all of a sudden transported to a foreign country where the price is not fixed. We know that the fair market price of a home is fluid. It might be any number in a range. It’s easy to say that it’s the price at which the buyer is willing to buy and the seller is willing to sell. But I’m going to add a few caveats to that.

By that I mean that no one is pressuring them to act, nor is either party desperate. The other is that the parties are knowledgeable. That is the sticky wicket. It’s the most important factor but also the one most often overlooked.

Buyers who are the most knowledgeable will ultimately buy at a lower price. Sellers who engage in the smartest tactics sell their homes for more money. But quite clearly, not everyone is equally knowledgeable. Exactly half are more knowledgeable than average and the other half are less so. I’m not willing to agree that the price agreed upon by a doofus seller and a doofus buyer represents the real market.

I’m currently involved in a transaction where it appears that the buyer is paying too much for a home. The appraiser, in whom I have great confidence, just cannot find comparable sales that support the “theoretical” price, even though the buyer and seller agreed upon it.

In this case, the buyers made the offer through the listing agent. Importantly, they do not have an advisor who works exclusively for them. If they had gotten their own agent, with better advice I suspect that the final price would have been lower, more in line with the appraiser’s estimate of value.

You can see that whether you are talking about stocks or items in stores, or real estate, there really is a range of values such that virtually any price within that range can be deemed to be fair market value. But whether you are buying or selling, you want to be at the best end of the range for you. But how do you get there? Aye, there’s the rub.

The real estate market is as complex today as I’ve seen in my 27 years in the mortgage business. Yet 60 Minutes ran a segment where they touted the advantages of using a cheap, low-advice real estate service. I think that this is exactly the wrong market for that! Today you need to find the most experienced, trustworthy advisors you can find. If you want the final price you agree upon to be most favorable to you, start out by getting better information and advice than the other guy is getting.