Fair market value
What is fair market value?
Fair market value is the price that a willing buyer will pay to an unrelated but willing seller. Specific circumstances must exist for fair market value to be determined.
Neither the buyer nor seller can be forced to make the deal. Both must enter into the transaction willingly. The buyer must understand the relevant facts regarding the purchase, and all rights and benefits are transferred to the buyer upon completion of the sale.
Anything that can be traded, bartered or sold has a fair market value. If you are selling a used sofa, the amount a buyer is willing to pay for that piece of furniture quickly determines its fair market value. Fair market value can be determined in other ways, including the following:
Comparative analysis — When real estate is being sold, agents conduct a “comparative market analysis,” meaning they compare the property in question to other properties with similar features. The same can be done for other assets, including coins, classic cars and jewelry. It is a matter of finding another item like yours and learning the price at which it has recently sold.
Professional appraisal — A certified professional with training and experience appraising an item or property like yours can help determine the market value. It’s important to work only with an appraiser who regularly assesses the worth of whatever it is you are trying to valuate. For example, if you want to know the market value of a piano, hire an appraiser who works with instruments.
Third-party website valuation — Although valuations offered by third-party websites such as Zillow.com for real estate and Kelley Blue Book for automobiles are controversial due to the algorithm used to collect their data, they can offer a rough idea of how much real estate and autos are selling for in your area. These valuations will not be exact enough to use for insurance purposes, but they can offer a starting point as you begin to search for fair market value.
Averaging — The fair market value of publicly traded stock is calculated by averaging the highest and lowest selling prices of the day. For example, if the highest is $10 and the lowest $5, the fair market value for that day would be an average of $7.50.
In some situations, fair market value goes haywire. For example, in some hot real estate markets, buyers are willing to forgo fair market value and pay more for a property than it’s worth, even when they know it’s a calculated risk. They either drop the appraisal contingency or agree to pay the difference if the appraisal is lower than their offer price.
The same is true for other items people are willing to overpay for, such as tickets to a World Series game or dogs that are rebranded as “designer dogs.” At that moment, the fair market value is inflated to reflect the degree to which a buyer wants to make the purchase.
There are other situations where fair market value simply does not apply:
- Liquidation sales.
- Distress sales.
- Deed in lieu of foreclosure.
- Eminent domain, in which property is taken in lieu of sale.
Wonder how to determine the value of an inherited home?
Fair market value example
- If given a gift of stock, the fair market value of that stock on the day you received it will determine the taxes you pay when it is sold.
- The calculations for most property taxes are based on fair market value.
- Insurance claims on any asset are based on fair market value, at least in part.
- If donating to charity, you normally receive a tax credit for the value of the donation. Fair market value is the assessment the IRS depends upon most.
The IRS wants to know the value of donated items.