Fair Market Value: What it is and what it isn’t

Welfont is a boutique commercial brokerage company that focuses on helping our clients find, analyze, finance, purchase, manage and sell commercial real estate properties. We specialize in representing real estate investors and tax-exempt institutions. Using IRS-approved tax strategies, including 1031 Exchange and the IRS Section 170 Bargain Sale, we help clients reach their giving potential. Welfont Joe Johnson is the CEO of the company.

In United States tax law, the definition of fair market value (“FMV”) is found in the United States Supreme Court decision in the Cartwright case:

The fair market value is the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to selland both having reasonable knowledge of relevant facts.United States v. Cartwright, 411 U. S. 546, 93 S. Ct. 1713, 1716-17, 36 L. Ed. 2d 528, 73-1 U.S. Tax Cas. (CCH) ¶ 12,926 (1973) (quoting from U.S. Treasury regulations relating to Federal estate taxes, at 26 C.F.R. sec. 20.2031-1(b)).

However, in real estate, we usually use the term Fair Market Value interchangeably with Market Value; BUT , they are two different things. The term “Market Value”, or “Current Market Value” is commonly used in real estate appraisal, since real estate markets are generally considered both informationally and “transactionally” inefficient, as the price at which a property will sell.  However, real estate markets are subject to prolonged periods of disequilibrium, such as in environmental situations or other market disruptions.

Appraisals are usually performed under some set of assumptions about transactional markets, and those assumptions are captured in the definition of value used for the appraisal. The definition set forth for U.S. federally regulated lending institutions is as follows:

“The most probable price (in terms of money) which a property should bring in a competitive and open market under all conditions requisite to a fair sale, the buyer and seller each acting prudently and knowledgeably, and assuming the price is not affected by undue stimulus. Implicit in this definition is the consummation of a sale as of a specified date and the passing of title from seller to buyer under conditions whereby: the buyer and seller are typically motivated; both parties are well informed or well advised, and acting in what they consider their best interests; a reasonable time is allowed for exposure in the open market; payment is made in terms of cash in United States dollars or in terms of financial arrangements comparable thereto; and the price represents the normal consideration for the property sold unaffected by special or creative financing or sales concessions granted by anyone associated with the sale.” Federal Register Vol. 55, No. 163, August 22, 1990. This definition has also been adopted by the International Association of Assessing Officials for tax assessment purposes.

Notice the difference?!  One requires motivation, one does not.  What this usually affects is timing, therefore price.  FMV has no limit on timing for marketing or selling.  Market Value assumes the Seller and Buyer have to act within a time window, usually for lending purposes this is considered to be between 6-12 months.  FMV has no such time limitation.