Understanding Functional Obsolescence

This is one of the most important concepts that a real estate agent can learn if they want to take their representation to the next level-the concept is that not all homes are created equal. Agents need to understand price per square foot is a novice's way of interpreting the market, they are just averages. The reality is real estate is much more complex than averages, especially as you get into the luxury market with homes over $500k, over $1 million, and over $5 million-plus.

FUNCTIONAL OBSOLESCENCE

Agents need to understand they may be dismissing features of the house. For example, some features in a kitchen are counters and cabinets. Granite countertops come in different levels and there are different types of cabinetry. Cabinetry quality vastly ranges from pre-fabricated assembled with staples to custom cabinetry assembled with tongue and groove joints. Other kitchen items are backsplashes and appliances. Agents need to have an understanding there is a value of every detail in the house. To fully understand this, agents need to understand functional obsolescence-those are the items that will keep a buyer from buying a house. Therefore, having a negative impact on other features of a house. For example, if a house backs to the railroad tracks, that’s considered functional obsolescence because there is a huge swath of buyers that you have taken out of the marketplace, thus reducing the demand, therefore the house sells for less. In this example of a house backing to railroad tracks, it’s worth 12-15% off the price of the asking price versus a standard lot.

When I was a buyer's agent looking at my first one to two thousand homes, there were particular items I would notice. For instance, I would notice maybe nine out of ten, or maybe in ten out of ten buyers would not like a home. If you are only selling ten houses a year you may only run into this only once every few months, so you pass it off as my buyers just didn’t like it without realizing all of the buyers that saw that home didn’t like it for the same reasons.

IMPACT

As you gain more experience selling 50, 100, or more houses a year, you realize the impact these items have and the financial impact. I use the word “impact” because when you impact demand, when you impact the number of people that will buy something, then you impact the price.

Why as a real estate agent do you want to know what functional obsolescence is? On the buy-side, it helps you put deals together. The more information you can supply in negotiation that is able to be understood by both the buyer and the seller, then the more deals you can put together when everyone sees the same rationale. Likewise, on the sell-side, now you add additional value items into the transaction, so you make the house worth more and the seller can accept the sales price. The reality is that you are always going to have to overcome functional obsolescence and removing some of it releases significant value in return.