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Determining Fair Market Price Part I.

Determining fair market value (FMV) can be an intricate process, as it is extremely reliant on the particular truths and circumstances surrounding each appraisal task. Appraisers must exercise professional judgment, supported by reputable data and sound method, to figure out FMV. This often needs cautious analysis of market trends, the schedule and dependability of comparable sales, and an understanding of how the residential or commercial property would carry out under typical market conditions including a prepared buyer and a prepared seller.

This article will attend to determining FMV for the meant use of taking an income tax deduction for a non-cash charitable contribution in the United States. With that being stated, this approach is appropriate to other intended usages. While Canada’s definition of FMV varies from that in the US, there are many resemblances that permit this basic method to be used to Canadian functions. Part II in this blogpost series will attend to Canadian language specifically.

Fair market value is specified in 26 CFR § 1.170A-1( c)( 2) as “the cost at which residential or commercial property would alter hands in between a willing purchaser and a ready seller, neither being under any compulsion to purchase or to sell and both having reasonable understanding of relevant facts.” 26 CFR § 20.2031-1( b) expands upon this meaning with “the reasonable market price of a particular product of residential or commercial property … is not to be identified by a forced sale. Nor is the fair market value of an item to be identified by the sale rate of the product in a market other than that in which such product is most commonly offered to the general public, taking into account the area of the product anywhere proper.”

The tax court in Anselmo v. Commission held that there must be no distinction between the definition of reasonable market price for various tax usages and therefore the combined definition can be utilized in appraisals for non-cash charitable contributions.

IRS Publication 561, Determining the Value of Donated Residential Or Commercial Property, is the very best starting point for guidance on figuring out reasonable market price. While federal guidelines can appear difficult, the existing variation (Rev. December 2024) is only 16 pages and uses clear headings to help you find key details rapidly. These ideas are likewise covered in the 2021 Core Course Manual, beginning at the bottom of page 12-2.

Table 1, discovered at the top of page 3 on IRS Publication 561, provides an essential and succinct visual for figuring out reasonable market value. It notes the following considerations presented as a hierarchy, with the most reliable signs of determining fair market price listed first. In other words, the table exists in a hierarchical order of the strongest arguments.

1. Cost or market price
2. Sales of comparable residential or commercial properties
3. Replacement expense
4. Opinions of expert appraisers

Let’s explore each factor to consider individually:

1. Cost or Selling Price: The taxpayer’s expense or the real market price received by a certified organization (a company eligible to get contributions under the Internal Revenue Code) might be the very best indicator of FMV, specifically if the transaction took place near to the evaluation date under common market conditions. This is most dependable when the sale was current, at arm’s length, both parties knew all relevant facts, neither was under any compulsion, and market conditions stayed stable. 26 CFR § 1.482-1(b)( 1) specifies “arm’s length” as “a transaction between one celebration and an independent and unassociated party that is conducted as if the 2 parties were strangers so that no conflict of interest exists.”

This lines up with USPAP Standards Rule 8-2(a)(x)( 3 ), which states the appraiser should offer adequate info to indicate they abided by the requirements of Standard 7 by “summarizing the outcomes of analyzing the subject residential or commercial property’s sales and other transfers, arrangements of sale, choices, and listing when, in accordance with Standards Rule 7-5, it was necessary for reliable assignment outcomes and if such details was offered to the appraiser in the typical course of organization.” Below, a remark more states: “If such information is unobtainable, a statement on the efforts carried out by the appraiser to get the details is required. If such details is unimportant, a statement acknowledging the existence of the details and mentioning its lack of relevance is required.”

The appraiser ought to ask for the purchase rate, source, and date of acquisition from the donor. While donors might be unwilling to share this information, it is needed in Part I of Form 8283 and likewise appears in the IRS Preferred Appraisal Format for products valued over $50,000. Whether the donor decreases to supply these information, or the appraiser identifies the information is not relevant, this must be plainly documented in the appraisal report.

2. Sales of Comparable Properties: Comparable sales are among the most trustworthy and commonly used approaches for identifying FMV and are specifically convincing to designated users. The strength of this approach depends on a number of crucial factors:

Similarity: The closer the similar is to the donated residential or commercial property, the stronger the evidence. Adjustments should be made for any differences in condition, quality, or other worth appropriate characteristic.
Timing: Sales should be as close as possible to the assessment date. If you utilize older sales data, initially verify that market conditions have remained steady and that no more current equivalent sales are available. Older sales can still be used, but you should change for any changes in market conditions to reflect the current value of the subject residential or commercial property.
Sale Circumstances: The sale must be at arm’s length between informed, unpressured parties.
Market Conditions: Sales must happen under regular market conditions and not throughout abnormally inflated or depressed periods.

To choose proper comparables, it’s crucial to completely comprehend the meaning of fair market worth (FMV). FMV is the cost at which residential or commercial property would change hands in between a prepared buyer and a willing seller, with neither celebration under pressure to act and both having reasonable understanding of the facts. This definition refers particularly to real completed sales, not listings or quotes. Therefore, only sold results need to be used when determining FMV. Asking prices are simply aspirational and do not show a consummated deal.

In order to select the most typical market, the appraiser should consider a wider introduction where similar used products (i.e., secondary market) are sold to the public. This typically narrows the focus to either auction sales or gallery sales-two distinct markets with various dynamics. It is very important not to combine comparables from both, as doing so fails to plainly determine the most typical market for the subject residential or commercial property. Instead, you ought to think about both markets and after that choose the very best market and include comparables from that market.

3. Replacement Cost: Replacement cost can be considered when determining FMV, but only if there’s a sensible connection in between an item’s replacement cost and its reasonable market price. Replacement expense describes what it would cost to change the product on the valuation date. In many cases, the replacement expense far goes beyond FMV and is not a trustworthy indicator of worth. This technique is utilized rarely.

4. Opinions of expert appraisers: The IRS permits professional viewpoints to be considered when figuring out FMV, however the weight provided depends upon the professional’s credentials and how well the viewpoint is supported by realities. For the viewpoint to carry weight, it should be backed by reputable proof (i.e., market data). This technique is used infrequently.
Determining reasonable market price includes more than using a definition-it requires thoughtful analysis, sound methodology, and reliable market information. By following IRS guidance and considering the facts and scenarios connected to the subject residential or commercial property, appraisers can produce conclusions that are well-supported. Upcoming posts in this series will even more check out these ideas through real-world applications and case examples.