Myth: Price-per-Square-Foot ($/sqft) Metric Should Determine Your Offer Price

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You’ve fallen in love with a Walnut Creek home that is on the market for $730k.  4 beds … 2 and a half baths … 2034 square feet of living space … completely remodeled and looking great.
Last month, a few blocks down the street from your dream home, another house sold for $590k.  That house had 2000 square feet.  So, after doing some highly advanced 3rd grade math, you determine that the purchase price was equivalent to $295 per square foot of living space … or, $295/sqft for short.
Man, you really love this new house, but its asking price breaks down to $359/sqft.  How can this be?  A house just down the street sold for under $300/sqft and this seller thinks his place is worth $359/sqft?  This guy must be crazy to think a buyer will pay that much for his house!  He’s crazy, I say!  Crazy!
Or is he?

Where Price-per-Square-Foot Falls Short

When it comes to residential real estate (as opposed to commercial real estate), trying to compare two properties based on their price-per-square-foot calculation is a recipe for disaster.  Right off hand, I can think of 3 very important aspects to a property that are being ignored when you try to do this:
  1. The lot.  The land upon which the house sits is completely ignored in this calculation.  If you were to create two identical houses and placed one on a 5k square foot lot on the side of a hill and the other on a flat, 10k square foot corner lot, do you really expect them to sell for the same price?  Of course not – but the $/sqft metric doesn’t account for that.
  2. The usage.  Not all square feet are created equal :)  How much would you value an extra 200 square feet in your house?  Would you enjoy a larger living room?  Of course you would, but what if I said that 200 square feet went to an additional bathroom?  In the eyes of a buyer, the extra bathroom adds way more value to the house than a larger living room.  But again, the $/sqft metric doesn’t account for that.
  3. The condition.  If a house has a brand new roof and a completely remodeled kitchen with granite counter tops and stainless steel appliances, would you expect to pay the same amount as you would for a dated, 1950s rancher?  Of course not.  But again, the $/sqft metric doesn’t account for that.
I’m starting to feel like a broken record, but I hope it’s obvious how the price-per-square-foot calculation isn’t enough (on its own) to properly compare the prices of two properties against each other.

Where Price-per-Square-Foot Excels

This isn’t meant to be a bash session on the $/sqft metric … really, I swear, it’s not!  In fact, I like and use this metric – just not when trying to price a specific property.  Rather, I like to use the metric when I’m looking at overall, long-term trends for an area.  When you watch how this metric behaves along side median and average sale prices, you can start to gather a sense for the buyer behavior and whether their dollar is going for more or less property than it was before.
$/sqft has the potential to show macro trends, but please don’t try to use it for micro pricing strategies.

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