What Is Fair Market Value And How Does It Determine Price?

Key Takeaways

• Fair market value is a crucial factor that influences significant decisions, such as property sales, tax assessments, investments, and insurance premiums.
   
• Fair market value determines price using three primary approaches: the market approach, the income approach, and the cost approach.
   
• Fair market value is different from market price and book value. As fair market value is a fair agreed price, book value is accounting value, and market price is the current trading price.
   

Fair Market Value (FMV) is the price an asset can get in an open market. Here, both the buyer and seller act willingly, without pressure, and know all details about the asset. It is not just about the original purchase price; it reflects current market realities.

Suppose Radhika bought a flat in 2015 for ₹40,00,000. In 2025, similar flats in the same building are selling for ₹82,00,000. This ₹82,00,000 becomes the fair market value, a figure shaped by current demand, condition, and market comparisons.

Fair market value sets the tone for fair transactions in real estate, investments, taxes, and more. In this blog, we will explore the importance of fair market value and how it determines price.

Importance Of Fair Market Value

Fair Market Value influences your decisions in property sales, taxes, investments, and insurance. The following table highlights why fair market value matters:
 

The above-mentioned table shows how fair market value plays a key role in making informed, fair, and financially sound decisions in various situations.

How Does Fair Market Value Determine Price?

You can find the price by applying the standard methods of fair market value. The following are some common methods:

1. Market Approach

This approach looks at recent sales of similar flats in the same locality.

Radhika found that three similar flats in her society were recently sold for ₹80,00,000, ₹82,00,000, and ₹85,00,000.

Fair market value = (₹80,00,000 + ₹82,00,000 + ₹85,00,000) ÷ 3 = ₹82,33,333.

So, according to the market approach, her flat’s fair market value is approximately ₹82,33,333.

2. Income Approach

The income approach is used for assets that generate regular income, such as rental properties. Formula:

Fair Market Value (FMV) = Net Operating Income (NOI) ÷ Market Capitalisation Rate

Where:

Net Operating Income (NOI) = Effective Gross Income – Operating Expenses

Suppose Radhika owns a rental property in Mumbai. She wants to estimate its fair market value using the income approach. 

Each year, Radhika receives ₹18,00,000 as Effective Gross Income and incurs ₹6,00,000 in Operating Expenses, while the market cap rate is 8%.
 

So, using the income approach, the fair market value of Radhika’s Mumbai property is ₹1,50,00,000. 

3. Cost Approach

This method estimates value by calculating how much it would cost to replace the asset and then subtracting depreciation for wear and tear. Formula:

Fair Market Value (FMV) = Replacement Cost – Depreciation

If constructing a similar flat like Radhika’s today costs ₹90,00,000, and the building’s age and condition account for ₹10,00,000 in depreciation:

Fair Market Value = ₹90,00,000 – ₹10,00,000 = ₹80,00,000

This approach works well when the property or asset is unique, or there are no recent comparable sales in the area.

The following table provides you with a side-by-side comparison to clearly understand how each approach estimates Radhika’s property value:
 

The above-mentioned table shows that property valuation can vary depending on the approach used. You need to select the method most relevant to your purpose.

Bonus Tip: Fair market value is not just a single and fixed number. However, it is a range that can fluctuate based on various market conditions and even the specific context of the transaction.

Common Misunderstandings About Fair Market Value

You might confuse fair market value (FMV) with other values or misunderstand its nature. The following table lists the common misunderstandings:
 

If you understand the above-mentioned differences, then this ensures you do not misinterpret the true value of your assets.

Conclusion

You might have understood by now that fair market value helps both buyers and sellers make fair deals by showing the true worth of an asset in the open market.

Fair Market Value considers many factors like demand, condition, and recent sales. This makes it more reliable than just a price tag or accounting value.

Whether you are selling property, valuing shares, or calculating taxes, knowing the fair market value gives you confidence in your decisions.

FAQs

1. Can market value be taken as fair value?

Not always, fair value is an estimated worth under normal conditions. However, the market value is the price agreed upon in an actual transaction.

2. What is the current market value?

It is the present price at which an asset can be sold in the open market.

3. What is the difference between fair market value and IPO price?

Fair market value reflects an asset’s estimated worth based on market conditions. On the other hand, IPO price is the specific price set by a company when it first offers shares to the public.

4. What is another term for fair market value?

Another common term is “market value,” though slight differences can exist depending on context.

5. What is the difference between market value and fair market value?

Market value is the price at which an asset sells. On the other hand, fair market value is the expected price when both buyer and seller act willingly without pressure.

6. How to find the fair market value of shares?

You can find it by analysing recent sales of similar shares, the company’s financial health, and market conditions, often with the help of experts or valuation reports.

7. What is the difference between fair market value and intrinsic value?

Fair market value is based on current market conditions and transactions. On the other hand, intrinsic value estimates the true worth of an asset based on its fundamentals, regardless of market price.

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