It is our aim to clarify the concepts of market value and purpose of a valuation that we use on a day-to-day basis and that probably sometimes create confusion.
Market value
We will start with the definition of Market Value, and then we will give the “literal” definition of this concept in the Eco/805/2003 Order, a standard used for valuations for mortgage purposes, and the definition found in the Red Book, international valuation standards RICS.
Order ECO/805/2003
Market or market value of a property (MV). This is the price at which the property could be sold by private contract between a willing seller and an independent buyer on the date of the valuation if the property had been publicly offered on the market, if market conditions allowed it to be disposed of in an orderly manner and if there was a normal period of time, taking into account the nature of the property, to negotiate the sale.
For this purpose, the following shall be considered:
a) That there must be no prior connection between seller and buyer, and that neither has a personal or professional interest in the transaction unrelated to the cause of the contract.
b) That the public offering to the market entails both the implementation of marketing appropriate to the type of asset in question, and the absence of privileged information in any of the intervening parties.
c) That the price of the property is consistent with the aforementioned public offer and reflects a reasonable estimate of the (most likely) price that would be obtained under the market conditions prevailing at the date of the valuation.
(d) Taxes shall not be included in the price. Marketing costs shall also not be included.
Red Book - RICS Valuation - International Standards
The estimated amount for which an asset or liability should be exchanged on the valuation date between a willing buyer and a willing seller in an arm's length transaction, after appropriate marketing, where the parties have acted with sufficient information, prudence and without compulsion.
As we can see, both concepts seek to reflect the most likely value under normal market conditions, ensuring that the transaction will be free, informed, equitable and free of external pressures.
Both definitions share a closely aligned conceptual basis, reflecting a common international view on Market Value. These are their main commonalities:
- Voluntary nature of the transactionIt is assumed that both buyer and seller act voluntarily, without coercion.
- Independent and unrelated partiesBoth definitions exclude previous relationships or personal or professional interests that could influence the transaction.
- Reasonable market conditionsAssumes a normal market with sufficient exposure and time to sell.
- Information and cautionBoth parties are expected to act with sufficient knowledge and in a prudent manner.
- No inclusion of taxes and chargesECO/805 specifies that taxes and charges are not included, which, although not explicit in RICS, is also often implicit in its technical usage.
The differences are not so much in the definition as in the scope of application of each of the rules, the Echo Order applies to Mortgage Valuations and the Red Book is a Standard. international and professional, used in global, financial, and corporate contexts.
This brings us to the Purposes of Valuation.
Purpose of a valuation
Let's take a closer look at the purposes for which a valuation can be requested.
We have to clarify that, if the valuation is carried out on a property located in Spain and for a Spanish mortgage, legal or other purposes, it is normal that Spanish regulations are used.
We can and should differentiate between:
Regulated Purposes:
These are those in which the appraisal report must strictly follow the technical, methodological and documentary criteria established in the standard that regulates them.
- Order ECO/805/2003. There are four purposes regulated by this Order:
- Mortgage collateral, used to determine the value of the property that serves as collateral for a mortgage loan.
- Determination of insurers' equity.
- Valuation of the assets of real estate collective investment undertakings.
- Valuation of real estate in pension funds.
- Land Law and its Regulation - RDL 7/2015 and RD 1492/2011.
- Expropriation valuation
- Urban Valuation
- Cadastral Standard - RD1020
- Cadastral Valuation
As we can see, each purpose has its own specific mandatory regulations associated with it. We can say that valuing the same property for different regulated purposes can produce different values, as the criteria and methods used are different.
Unregulated Purposes
Valuations carried out for non-regulated purposes do not have a mandatory standard that they have to follow, although it is quite possible that they rely on criteria and methodologies of some of the standards mentioned above, but they are certainly more flexible in terms of format and methodology.
Any of these Unregulated Purposes
- Valuation for sale and purchase, estimation of the market value of a property for information purposes for buyer or seller.
- Distribution of inheritances or divorce proceedings, determination of values for equitable distribution between the parties.
- Accounting / tax valuation, determination of fair value for balance sheet or tax assessment purposes.
- Judicial or expert appraisal, reports issued as expert evidence in judicial proceedings.
- Internal or strategic advice, Estimation of value for corporate or equity decisions.
In all of them, the technician will have to justify the criteria and methodologies used, but they are not obliged to follow any specific regulation.
Mortgage purpose and market value
We have been able to explain that valuation for mortgage purposes is governed by the market value, which is already defined in the same order and which is closely analogous to international definitions of the same concept.
In a valuation for mortgage purposes, we therefore calculate the market value of the property with the following characteristics:
- The value refers to the date of issue of the report, We cannot value for a different date or make future assumptions.
- The value takes into account the occupancy status and use of the property and the necessary methods for their calculation are adopted accordingly.
- From the calculated values, the Order indicates which is to be certified as the appraised value.
- The criteria used include prudent judgement, This implies applying prudent assumptions regarding liquidity, stability and sustainable use of the property.
- The mortgage value can be the calculated market value or lower than this, always with objective criteria, incorporating a conservative and stable approach over time, aimed at protecting the financial institution against possible market fluctuations.
Conclusion on the market value and purpose of an appraisal
In short, understanding the link between the purpose of the valuation and the type of value to be applied is essential to correctly interpret the results of any valuation report. Valuing a property for mortgage collateral is not the same as valuing a property for expropriation, sale and purchase or inheritance, as each purpose may require the use of different methods, specific criteria and different levels of prudence, as required by the applicable regulations. In the case of the mortgage purpose, for example, although the starting point is the market value, the regulations require the application of the principle of prudent valuation, which may result in a lower appraisal value, known as the mortgage value, which is more stable and conservative. Therefore, only a correct match between purpose and methodology guarantees that the appraisal is technically valid, legally compliant and useful for decision-making by all parties involved.