What is the right price for a house?

by Chris Lang on September 12, 2008

What’s the right price for this house? If you’re looking to buy a house, you are going to ask yourself this question – a lot. This is your task number one in this whole process and here is why. Let’s say you’ve assessed the value of the house, made a mistake and paid more for it – then you have killed any possibility of capital growth on the spot. Then again, if you’ve underestimated the value and tried to negotiate with the vendor a lower price – you are wasting your time.

There are many tools available to help you in this process (for a fee, of course) and they all include historical data of the sales in your “target” suburb, the median house price in the suburb (link to definition of median price), how much that exact house was sold for in the past, etc. If you ask me, their answer to your main question: “How much should I pay for that house” should be taken with a grain of salt, because those numbers were influenced by factors that might have changed by now – for example, inflation, interest rates, unemployment, etc. Personal decision of previous vendor to pay that much for a house was made for the reasons we don’t know – so it doesn’t necessarily means that he paid a fair price.

There is one tool I find interesting at Findmeahome.com. It was designed to get you a price range of a house you’re interested in – and you get 20 attempts for free. They do ask for a valid mobile phone number as means of identity verification but don’t sell it to third parties. I have given my 2 numbers and never got any spam. There is a simple explanation on how to use the system here.

One thing about that tool was unclear to me – they want you to rate the house you are asking about, compared to other houses on the same street, on scale from 1 to 10. My first question was – I can look at the house but I can’t see through the walls, so I have no idea how many bedrooms/bathrooms are in each house. To me it didn’t make sense to compare a house with 2 bedrooms to a house with 4. Also none of the features that influence the house price (such as spa, pool, new kitchen etc) are visible from the outside.

I asked David Philips from Residex, the person behind the blog of FindmeAhome.com to explain what exactly people should do here, we exchanged a couple of emails and here’s the explanation:
“The rating is based on taking all the properties on the street, arranging them in order from what we think are the cheapest to the most expensive, and splitting it into groups: 1/10, 2/10, 3/10, … 9/10, 10/10: the way that you would work out the rating of a property would be to compare it to other properties on the street… to some extent, the exterior of a property will let you work out its rating: we work it out based on our knowledge of what’s sold, and how much the various properties are worth”

I checked their system on a couple of houses and it gave me some pretty accurate numbers – now that got me thinking: how do they do it? Well, in a nutshell, Residex has access to a huge pool of statistical data and using some smart tests they work out those estimates. These smart tests include:

1) Checking the average value of houses with same number of bedrooms in the same street
2) Using the street rating we discussed (see above)
3) Median value of properties in the same street
4) Value of house divided by land size – t.e. cost per square meter
5) Capital growth of the suburb applied to the last sale price of that house

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