How Terms of Reference Can Affect the Appraised Value of Your Property

by Chris Bisson August 19, 2024

A guide for people going through a separation or divorce

If you are going through a separation or divorce, you may need to get an appraisal of your property for various purposes, such as dividing assets, refinancing, or selling. But did you know the same property can have different appraised values depending on who orders the appraisal and what instructions they give to the appraiser? In this post, we explain how this happens and what you can do to avoid confusion and frustration in the process.

What are Terms of Reference?

Terms of reference (TOR) are the guidelines or instructions a client provides to an appraiser for conducting an appraisal. They specify several things, including: the scope of work, the purpose and intended use of the appraisal, the type and definition of value, the types of comparable properties to be used in the report, and any other requirements or limitations the client may have.

TOR can vary from client to client, and even from case to case within the same client. For example, your lawyer, your spouse's lawyer, your bank, or your real estate agent may order an appraisal of your property and give different TOR to the appraiser.

How do Terms of Reference Affect the Appraised Value?

The appraised value of a property is the result of the appraiser's analysis and opinion based on the available data and the applicable valuation methods. One of the most common and reliable methods is the direct comparison approach, which involves comparing the subject property to similar properties that have sold recently in the same market area.

The appraiser adjusts the sale prices of the comparable properties to account for any differences in factors such as location, size, condition, quality, features, and market conditions. The adjusted sale prices of the comparables provide an indication of the value of the subject property.

However, the selection and adjustment of the comparables are not arbitrary or subjective. They are governed by the TOR the client sets for the appraisal. The TOR affect the appraised value: by limiting the distance to the subject property, by limiting the date of sale of the comparables, and by limiting the maximum net and gross adjustments made in the direct comparison approach (among other things). Let's look at each of these factors in more detail.

Distance to the Subject Property

The distance to the subject property is the physical distance between the comparable property and the subject property, measured in kilometers or miles. The closer the comparable property is to the subject property, the more likely it is to reflect the same market conditions and demand.

The TOR may specify a maximum distance the appraiser can use to select the comparables. Examples of requirements: the comparables be within 5 km of the subject property, or within the same neighborhood, or within the same municipality. This ensures the appraiser uses the most relevant and representative data for the valuation.

However, the distance to the subject property can also affect the appraised value in another way. If the appraiser cannot find enough comparables within the specified distance, they may have to expand the search radius or use less similar properties. This can result in lower or higher adjustments, and consequently lower or higher appraised values.

If the subject property is in a rural area where sales are scarce, the appraiser may have to use comparables that are farther away or have different characteristics. This often results in higher adjustments.

Maximum Net and Gross Adjustments

The maximum net and gross adjustments are the limits the TOR may impose on the amount of adjustments the appraiser can make in the direct comparison approach. The net adjustment is the total percentage of adjustment for a single comparable property, calculated by adding the absolute values of the individual adjustments. The gross adjustment is the total percentage of adjustment for all the comparable properties ignoring negative signs.

If the appraiser makes three adjustments of -10%, +5%, and +15% for a comparable property, the net adjustment is 10% (-10% + 5% + 15%). In the same scenario, the gross adjustment is 30%.

The maximum net and gross adjustments are intended to ensure the appraiser uses the most similar and reliable comparables for the valuation. The lower the adjustments, the more comparable the properties are. Therefore, the TOR may specify a maximum percentage the appraiser can use for the net and gross adjustments.

An example requirement can be expressed like this: “The net adjustment does not exceed 20% and the gross adjustments do not exceed 30%.” In the client’s eyes, this ensures the appraiser uses the most credible and consistent data for the valuation.

Date of Sale of the Comparables

The date of sale of the comparables is the date when the comparable property was sold. In some cases, appraisers are able to use “firm sales” that haven’t closed. The closer the date of sale is to the effective date of the appraisal, the more likely it is to reflect the current market conditions and trends.

The TOR may specify a maximum time period the appraiser can use to select the comparables. For example, the TOR may require the comparables be sold within the last three months. This ensures the appraiser uses the most current and accurate data for the valuation.

However, the date of sale of the comparables can also affect the appraised value in another way. If the appraiser cannot find enough comparables within the specified time period, they may have to use older sales and will often make time adjustments in these scenarios.

What Can You Do to Avoid Confusion and Frustration?

As you can see, the appraised value of your property varies depending on the TOR the appraiser follows. This can cause confusion and frustration in the process, especially if the appraised value is lower than the expected value. To avoid this, here are some tips you can follow as someone going through divorce or separation:

Agree on a TOR with your spouse before sending appraisers to the property. This can be arranged through your lawyer or directly with your spouse depending on the circumstance.

If getting agreement on the TOR isn’t possible, try to learn the TOR your ex is giving to the appraiser. This way, you can have an idea of what to expect.

Choose an appraiser who is qualified, experienced, and impartial. This way, you can ensure they have the necessary skills and knowledge to conduct a credible and professional appraisal. You can also ask for references or testimonials from previous clients.

Provide the appraiser with any information can help them in the valuation process, such as the property features and any recent renovations or improvements. This way, you can ensure they have a complete and accurate picture of your property, and they can justify any adjustments they make.

Review the appraisal report carefully and look for any errors or inconsistencies. If you find any, ask the appraiser to explain or correct them. If you disagree with the appraised value or the methodology, ask the appraiser to reconsider by providing additional information, such as a recent sale that might make a good comparable. If you are still not satisfied, you can request a second opinion from another appraiser.

By following these tips, you can help yourself get the best possible appraised value for your property and avoid any potential issues or disputes in the process. Remember, the appraised value is not a fixed number. It is an opinion based on the available data and the applicable TOR.

By understanding how the TOR can affect the appraised value, you can be better prepared and informed.

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