How to determine fair market value (FMV)

Buying your first home should be exciting, but it’s also often overwhelming. It can feel like you have to learn an entirely new vocabulary just to make a smart decision. There are appraisals, contingencies, closing costs, and so much more. But fair market value (FMV) might be the most important of all the new jargon you’re likely to learn on your home buying journey.

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Table of contents

What does “fair market value” mean?How do you determine the fair market value of a property?Why is fair market value important?

What does “fair market value” mean?

The FMV of a home, business, or any other type of asset is the price at which it would be sold on the open market during normal conditions. According to the Internal Revenue Service (IRS), this means a property would change hands between a willing buyer and seller, who have agreed upon a price with full knowledge of relevant facts and without a compulsion to buy or sell. 

Fair market value vs. market value: What’s the difference? 

FMV is a hypothetical value—it is determined based on the estimated amount a buyer and seller would likely agree upon under “normal” conditions. Market value, by contrast, is the price at which a property will actually sell for. While FMV and market value are closely related and can work out to be the same, the latter is subject to unpredictable real-world scenarios. 

For instance, if a seller isn’t able to make their mortgage payments, because they lost their job or have an emergency in the family, they might be compelled to sell the house below its FMV to get it off their hands as quickly as possible. Or, if a buyer wants to build a home in the last lot in an up-and-coming neighborhood, they might be persuaded to pay above FMV to secure that dream spot. 

Basically, any time either party responds to outside pressures or acts at all irrationally while buying or selling a home, the home’s price point is subject to stray from its FMV.

How do you determine the fair market value of a property?

Because markets are constantly fluctuating and there are so many elements that affect a home’s value (location, size, age, land, architectural style, finishes, etc.), there is no one specific formula to calculate FMV. 

That being said, one way to start is by looking at how property values have changed over time for properties similar to yours. 

  1. Look at the actual change in property value that comparable properties have experienced. You can calculate this by looking at listing histories. 

  2. Consider the price you paid for your property, or the price that the current owner paid for it. 

  3. Apply the average value change that you assessed to that price. 

If you’re looking for an accurate FMV estimate, it’s best to have your home appraised by a professional, third party appraiser.

Miniature wooden see-saw with block spelling out "fair" on one side, and a house figurine on the other.

Why is fair market value important?

While FMV can sometimes feel somewhat theoretical, given the unpredictability of the real world, understanding this measure of your home’s value is a key first step to entering the real estate market. More than that, FMV will have very real effects on your insurance policy and taxes relating to your home, no matter what you paid for it. 

  • Selling your home: When it comes time to sell your home, determining its FMV is an important first step. Once you have a sense of what your property would go for on the open market, it can be useful to work with a real estate agent to identify whether there are improvements that could be made to increase your home’s value and ultimately put it on the market at a higher rate. 

  • Property tax: No matter what you paid for your home, its FMV will be used for all tax purposes. As a homeowner, you’ll have to pay a municipal property tax determined by your home’s FMV every year. 

  • Gift or estate tax: If a property trades hands as a gift or inheritance (say, if your grandmother leaves you her house in her will, or your parents choose to help you out by selling you their $500,000 home for $150,000), it is subject to a gift tax or estate tax based on the property’s FMV. 

  • Insurance: Your insurance company will use your home’s FMV, along with a liability assessment, to determine your insurance rate. And if your home is robbed or damaged in a natural disaster (knock on wood), your insurance claims and payouts will be based on FMV as well. 

Bungalow is the best way to invest and manage your real estate portfolio. We work with you to identify, purchase, fill, and manage residential properties—so that you can enjoy up to 20% more in rental income with a lot less stress. Learn more about Bungalow

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