Valuation tolerances

One of the most important questions to be asked when considering real estate valuations is what level of accuracy should be expected from a valuation prepared by a qualified valuer?

In this article we explore the concept of valuation tolerance and determine what is considered an acceptable variation in valuations.

When considering what is best valuation practice chartered valuation surveyors would normally refer to The Royal Institution of Chartered Surveyors Valuation Standards. In the case of valuation tolerances however The Red Book, as the standards are known, is silent and we must therefore rely on the guidance of the courts through past Case Law.

It was in a landmark case in 1977 in the United Kingdom, involving the valuation of a standard house on a housing estate of similar properties, that the courts for the first time explicitly recognised the idea of a margin of error or bracket around the true value of a subject property.

With the effect that any valuation falling outside of this bracket could bring into question the competence of the valuer preparing the report.

In considering what the appropriate size of this bracket is, however, the first thing that is clear is that there is no single answer that is applicable in all cases. In deciding upon what are acceptable valuation tolerances the courts will have particular regard to the perceived difficulty of the valuation task. This would include considering such factors as the type of property, the availability of suitable comparable sales and the type of market at the time of the valuation.

In most cases the courts have held that a suitable margin of error should generally be up to 10 per cent either side of the true market value.

However, in some circumstances the bracket may be wider or narrower. In the landmark 1977 UK case the expert witnesses involved in the case agreed that due to the large number of comparable sales available a bracket as small as five per cent was considered appropriate.

Whereas in a case regarding the valuation of a hotel where there were few comparable sales available, it was agreed that 15 per cent should be considered to be the maximum allowable variance in valuation.

On occasion the courts have set even wider margins, such as in the valuation of office premises intended for redevelopment where the court settled on a margin of 17.5 per cent.

In applying the above case law to the Cayman Islands, however, one must have regard to the size of the property market when compared to the United Kingdom. The relatively small local market has a limiting factor on the number of comparables available, both in terms of type of property, geographical area and frequency of sales.

A rising market, such as recently experienced in Grand Cayman would also have an impact on what the courts would perceive to be an acceptable margin of error for a valuation on a local property.

In considering where the margin of error lies, it should also be noted that simply because a property sold at a particular price does not necessarily mean that this is the true market value. As explained in previous articles, market value is defined as a sale by a willing seller to a willing purchaser, with no special interest in the property, both acting with perfect knowledge of the market, after a reasonable period of marketing.

Therefore a sale to a purchaser who may not be familiar with the local market, such as an overseas purchaser may not always be considered to be the true market value.

Similarly a purchase by Government for a specific purpose, such as for the site of a school could be considered to be a special purchase since their bid could be considered to be distorted due to the lack of suitable alternative properties available to them.

In order to establish the true market value, the courts would generally rely on the expert witness of chartered valuation surveyors who have experience of the type of property and geographical area being considered.

The courts have for many years recognised that valuations contain an element of subjective opinion and that a valuer should not be found negligent solely on the ground that his valuation differs from either the actual sale price or a valuation prepared by another qualified valuer. Indeed a judge has been quoted as saying ‘Valuation is an art, not a science. Pinpoint accuracy is not, therefore, to be expected,’ whilst another judge stated ‘Valuation is not an exact science; it involves questions of judgment on which experts may differ without forfeiting their claim to professional competence.’

Nevertheless, whilst it can be expected that valuations will differ and that two experienced qualified valuers may arrive at two different opinions of value, there is an accepted margin of error within which the valuations should fall. The size of the appropriate margin, however, is dependent upon factors specific to the actual valuation and can only be decided upon after careful consideration of all the facts relating to the case.

Simon Watson is Director of Deloitte Property Consulting Services. He is a Fellow of The Royal Institution of Chartered Surveyors, a founding Board member of RICS Caribbean and the Caribbean representative to RICS Americas. Simon has 20 years experience in surveying, half of that experience gained in the Cayman Islands. Deloitte Property Consulting Services provide a comprehensive range of services including project and construction management, contract and financial monitoring of projects, valuations and appraisals, quantity surveying, property management and insurance claims adjusting services.

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