Do Property Appraisals Have “External Validity”?

We recently came across an article in the new York Times, entitled  Accuracy of Appraisals Is Spotty, Study Says, (N.Y. Times, May 9, 2012) — click here. With a title like that, we are sure you get the idea what the message of this article is. But this one is of particular interest because it compares appraisals of properties with the prices they fetched when actually sold.

The reported study indicates that of the 2076 properties examined, 64 percent were appraised at values that exceeded the sale price, while 35.5 percent were appraised at less than the sales prices.

This won’t come as too much of a surprise to the readers of this blog, particularly of its “Lowball Watch” feature. We have to keep in mind that appraising is not a science and that an appraisal is an opinion — no more, and no less.

CAVEAT: This article deals largely with appraisals for loan purposes, not eminent domain where the underlying assumptions tend to be different. For one thing, in these transactions the owner does not have his property btaken from him, and the constitutionally required “just compensation” must reflect the property’s highest value. Since the owner is denied the opportunity to take his time and find a buyer willing to pay top dollar, the law provides him with it. Second, the parties to negotiation in an eminent domain case cannot just walk away from the deal when displeased with the other party’s position. So the information conveyed in this article must be used with caution when sought to be applied to eminent domain.

Still, here is an illustration of the fact that Justice Frankfurter overstated things when in Kimball Laundry Co. v. United States, 338 U.S. 1, 4-5 (1945), he asserted that value in exchange is possessed of “external validity,” whatever that means.

Bottom line: while fair market value (i.e., value in exchange) is one reasonable measure of “just compensation,” it ignores incidental losses suffered by condemnees when they are forcibly evicted from their homes and businesses. It is in the end an opinion — an opinion of an informed person, but still an opinion. Or, as Justice Frankfurter also conceded in Kimball Laundy, market value is “only. . .a guess, as well informed as possible as to what the equivalent of the [subject property] would probably have been had a voluntary exchange taken place.” Or, if you prefer the wit of the New Hampshire Supreme Court, “the search for fair market value is not an easy one, and is akin to ‘a snipe hunt carried on at midnight on a moonless landscape’.” 590 Realty Co., Ltd. v. City of Keene , 444 A.2d 535, 536 (N.H. 1982).

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