Yesterday, I pointed out that the house you live in is an essential part of your net worth calculation. But determining the value of your house, especially if it’s the house you live in and not something you track as an investment, can be tricky.
It’s easy to determine the value of your mortgage to include that in your net worth calculation. Just look at the latest statement from the lender. The statement will highlight your remaining balance, and it’s a number you can’t escape if you do in fact, as you should, look at your statement every month.
The house can be trickier to value. But if you include your mortgage in your net worth calculation, you should also include some value for your house. And it should be a value that makes sense. There are at least three ways to determine your home’s value for the purposes of your net worth calculation.
1. The value of your home is the price you paid.
When you purchased your house, you and the seller agreed upon a value. You then paid the seller that much money, whether you borrowed the money or not, and paid additional fees to complete the purchase. It’s not wrong to consider the purchase price the value of your house for your net worth calculation purposes. No one could say that your figure would be wrong if you use this approach. After all, this was the last market-confirmed value, and there won’t be another market-confirmed value until you sell the house.
This is a problem if you’ve lived in this house for a substantial amount of time. Your community may be more desirable than it was when you moved in, or it may be less desirable. Your neighbors in similar houses might have sold their homes for more money in the intervening years, and the sales price of “comparables” may effect the potential sales price of your own home. You may have made improvements to your home or you may have let it fall apart. All of these factors can change the value of your home, and you can’t be sure until you put it on the market and receive at least one offer.
The big benefit of using your house’s purchase price as the value of your house in all future net worth reports is that it ensures your net worth progress reflects mostly the financial decisions you make on a day-to-day basis. That would allow your net worth progress to present a better picture of your behavior with money, but it wouldn’t really represent your true net worth at any one time.
If however, you own your house for a sufficiently long time, there’s a great chance the value of your home will be so far off from the purchase price that your net worth with a number in old dollars is relatively meaningless. An interesting remedy would be to use your purchase price initially, and then adjust your home’s value on your balance sheet once a year based on the rate of inflation. This will allow you to continue using the house’s purchase price, but it was always be in “today’s dollars,” just like your mortgage and the rest of your balance sheet.
2. The value of your home is defined by appraisal or competitive market analysis.
In order to pay property tax, your local government depends on appraisals. Appraisals provide a way for the government to look at your land, your home, and any changes to either since the purchase of your home to determine the amount of your tax bill. Appraisals also come into play when you’re going through the process of selling your home. When you pay tax, you want the appraisal to be low, while when you’re selling, you want the appraisal to be high. And if an appraisal isn’t inline with the owner’s expectations, the owner can challenge it.
Using the latest appraisal in your net worth statement offers a more timely valuation, but it may not be a valuation you agree with. It may not be a valuation that has any relevance to the amount of money a buyer would be willing to pay, either. It is the result of someone’s opinion — a professional’s opinion — but a real estate agent familiar with your home and your neighborhood may be better professional to offer such a valuation. And if you ask a professional who doesn’t have any reason to exaggerate, you can probably get a relatively accurate estimate.
A real estate agent might be willing to do a competitive market analysis for your property if you appear to be intending to use that agent to represent you in a sale. And certainly, an agent who is willing to do this work for you will feel he or she is in a good position after doing a significant amount of work for you to choose that agent as your broker.
A competitive market analysis may be more accurate than an appraisal, but neither of these would you do every month to keep your net worth calculation “accurate,” or to follow the potential of a sale price that might change on a month-to-month basis.
3. The value of your home is provided by Zillow.
Anyone who has shopped for a house in the last few years is likely familiar with Zillow. I’ve only just begun to look at houses — and I’ve paused those efforts during my latest round of travel — and I’ve been using Zillow to plan most of the visits. Zillow’s estimate — or Zestimate — for one property I was interested in was a good $100,000 or more higher than the seller’s asking price.
So how does Zillow come up with their estimates for each property? Zillow uses public data about recent sales and uses a calculation — a proprietary formula — that takes factors about the home and its neighborhood into account. A few real estate agents I’ve talked to don’t like Zillow’s estimates. It seems to make their job more difficult, and they believe it could lead buyers or sellers to make bad decisions. I think it’s important to remember this value is just an estimate, but it is based on data, and that makes it appealing to people wishing to track their net worth (as well as to people house shopping).
A publicly-recorded sale of one house in a neighborhood can send Zestimates in one direction or another without much warning, even if that house bears little resemblance to one’s own. And that’s one of the possible reasons house values are fluctuating month to month on the net worth report submissions from Naked With Cash. Zillow offers verifiable data to support a valuation on a balance sheet, and it gives someone the comfort level of not having to guess the value of their property on a day-to-day or month-to-month basis.
The question is whether Zestimates are correlated to actual sales prices. And there have been a few analyses completed outside of Zillow to determine if there is a trend of Zestimates to be higher or lower than realized prices, but every area seems to be different.
What is your method for including a value for your house on your balance sheet? I have not owned a house in the past, and I don’t own one now, so I’ve had no reason to decide on a method for myself. I’m curious how other people think about the value of their house while they own in.