If a 2,000 square foot house sells for $800,000, the price per square foot is $400.
So, if a nearby house is 2,200 square feet, it should be worth an additional $80,000 (200 sq ft x $400), right?
Nope. Not even close.
I blogged several years ago about Why Appraisers Don’t Like “Cost Per Square Foot” Analyses, pointing out that such comparisons only work if lot sizes, condition, updating, locations, room counts and floorplan utility are very similar.
But, for today’s blog I am going to specifically discuss why appraisers make relatively small adjustments for differences in square footage on appraisal reports.
Price per Square Foot Analyses That Realtors Use Include Everything
First and foremost, when a real estate agent uses a price per square foot analysis (total cost of home/square footage), she is taking the entire property into account – including the lot size, the landscaping, the outbuildings, the pool (if there is one), the home, the garage, the updating, and everything else.
In sharp contrast, when an appraiser is comparing home sizes or square footages, she is only looking at the gross living area of the homes. She compares the other improvements to the property (such as pools, garages, basements, room counts, remodeling) in other lines or sections within her report.
So, if she is already making upward adjustments for a pool, a larger garage, an extra bath, and a larger lot, it would effectively be double counting if she made a large adjustment for the difference in square footage too.
If she did make a $400 per square foot adjustment (per my example at the top of the blog), she would have to assume all other aspects of the property (lot size, improvements, updating, room counts, etc.) were nearly identical and make no other adjustments. But – that would be nearly impossible, and it would make for much less accurate appraisal reports in general.
This is why people might see only a $20,000 adjustment (or less) for a 200 square foot difference, as there might also be a $25,000 adjustment for a pool, a $20,000 adjustment for a larger lot, and a $10,000 adjustment for an extra bath.
What the Market Will Bear Too
The other factor has to do with what the market will bear.
If a neighborhood consists entirely of 2,000 square foot homes in 5,000 square lots, additional square footage may not always result in higher property values.
There will be decreasing marginal returns too, meaning that larger and larger homes yield smaller and smaller square footage adjustments.
Hence, an addition with 200 square feet might add an additional $40,000 of value (depending on the area’s price points). But, an addition with 1,000 square feet may not add any more value than the 200 square feet addition – and it could actually detract from the value given how small the lots are.
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