Prelude to a Case Study: What’s Depreciation?

Computing appreciation takes a hard look at historic sales
Computing appreciation takes a hard look at historic sales

My good ole American Heritage Dictionary (2nd College Edition) defines depreciation as “a decrease or loss in value because of wear, age, or other cause.” That’s what the dictionary says. Lately, media portrayal of real estate depreciation has been the rage.

Recently I received a message from someone asking how much homes have depreciated in their neighborhood (also mine) in the past few years. Look at the news…..10%, 20%, the stories are endless. But are they correct?

My thought is “no.”

An important factor in the definition is that depreciation can only accurately be determined on one subject property. By definition, a “decrease or loss in value” (or an increase) can’t definitively be calculated by averaging current sales and subtracting. It has to be explored by looking at one property and determining the difference in its value based upon what it sells for, then averaging that number by the months or years between sales. While appraisers generally use the “comparative sales approach” to estimating the value of a property, we have to keep in mind that it still is an estimate.

The problem with TV, Print, and internet media news is that they are taking an average of what homes sold for in the past then averaging home sales currently and calculating depreciation based on the two averages. Question: What if all the trashy houses sell in 2009 and the nice ones sell in 2005. What if there is a balance between distressed (foreclosure) sales in 2005 but an increase in foreclosure sales in 2009? Does the market value drop for a home in great condition even though the only sales are homes in poor condition?

The truth is that foreclosures aren’t something new. In trying to establish a value, appraisers really aren’t supposed to compare homes in good condition being sold at market in non-distressed situations with foreclosures. Also, if a home sells for 15% below market value, but needs that same amount of repairs and updates, appraisers consider that too. The problem today is that there are some situations where finding a non-distressed sale that is similar to the subject property is difficult.

It was great to get a question from a home owner because it gives me the opportunity to try provide a realistic case study that people can see. Hearing the news is something just about everyone does, but the style of reporting, producing sound bytes, over-generalizing etc. really would gloss over most of the facts in just about any industry.

Coming up……Case Study of Tower Grove South home appreciation.

Published by cgrus

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