If you apply for a mortgage for your home purchase, the bank or lender will require an appraisal of the property. Here is a list of some basic questions and answers about appraisals. For the sake of simplicity, we will assume the most typical scenario: the appraisal is for a mortgage for 80% of the purchase price, and you will be covering 20% of the purchase price from your own money. If you need to borrow more than 80%, or have enough of your own money to borrow less, the basic concepts are the same but. there are some significant differences. We will cover the less typical situations in future posts.

What is a mortgage appraisal?

A mortgage appraisal is an unbiased analysis of the value of a property for the bank or mortgage lender’s use.  The value is based on the size, age, condition, features, location of the property.

Why do banks require appraisals?

In case the borrower cannot continue to pay the loan at some point in the future, the bank will foreclose on the mortgage and sell the property to recover their loan money.  The bank wants to know up front that the value of the property is high enough so that if “push comes to shove”, the proceeds from selling the foreclosed house is likely to be enough money to enable the bank to come out whole.

 

Who does the appraisal?

A licensed appraiser does the appraisal in accordance with guidelines that all appraisers are required to follow. Appraisers are licensed by the state, just as real estate agents and brokers are.

 

Is an appraisal the same as a broker’s evaluation of the property? 

No.  A brokers evaluation is done by an agent or broker to give your their opinion of how much money they can get if you elect to have them sell the property.  It does not have to follow any legal guidelines and can take into consideration the options of doing repairs, staging, marketing, timing of listing the property for sale, etc.

Is an appraisal the same as the Assessed Value of the property in the tax assessment records?

No.  The assessment is used as the basis for taxes.  It is done by the local Tax Assessor’s department.  Its focus is on ensuring that properties of similar value have similar tax assessments so that they will get comparable tax bills.

Who pays for the appraisal?

The mortgage lender arranges for the appraisal, but the loan applicant – i.e. the buyer – pays for it.  Its cost is included in what is typically called “closing costs” charged by the bank or financial institution.

What does the bank do with the appraised value?

As mentioned in the introduction above, the bank will typically lend the buyer up to 80% of the assessed value. Buyers typically commit in their offer to purchase the property to “put down” – i.e. use their own funds for – at least 20% of the purchase price. If the appraised value is equal to the purchase price, then 80% of the appraised value plus 20% of the purchase price add up to the whole purchase price, and all is well.

What happens if the appraised value is higher than the purchase price?

The buyers are always happy when the appraiser thinks the property is worth more than they are paying.  But, they still typically borrow the originally planned 80% of the purchase price.

 

What does the lender do if the appraised value is lower than the purchase price?

If the appraisal is less than the purchase price, then 80% of the appraised value is be less than 80% of the purchase price.  In these cases, the borrower is requesting a loan that is higher than what the lender is willing to lend based on the appraisal.  The lender rejects the mortgage application for 80% of the purchase price.

EXAMPLE: The purchase price is $200k.  The buyers applied for a mortgage of 80% or $160k. The buyers committed in the mortgage contingency clause contained in the offer to put down 20% or $40k.  The appraised value comes in at $190k.  So the bank is willing to lend 80% of $190k in this example, or $152k.  The bank rejects the buyers’ application for a loan of $160k.

What are the buyers’ options if the appraisal is low?

If the appraisal is lower that the purchase price in the typical 80% loan/20% downpayment situation, the borrower (who is also the buyer) has four basic options:

  1. Withdraw

The buyers can present to the seller the letter from the bank rejecting their mortgage application for 80% of the purchase price.  They can withdraw from the purchase and get a refund of any deposits they made.

  1. Cover the gap

The buyers have the option of putting down more money to cover the gap.  In our example above, since the bank will lend only $152k instead of $160k, the buyer can put down $48k instead of $40k.  The loan of $152k based on 80% of the appraised value, and the increased deposit will cover the purchase price of $200k.

  1. Offer to pay the appraised value

The buyers can renegotiate with the seller to pay the appraised value of $190k.  Then the bank will lend them 80% of the new price, and they can put down the balance which is lower than before.

  1. A combination of #3 and #4

The buyers can do a combination of 2 and 3 above…i.e. get the seller to lower the price part of the way to the appraised value and fill in the rest of the gap by putting down more than planned.  In our example, the seller might agree to lower the price to $198k and the buyers could increase their down payment to $46k. The $152k loan that the bank is willing to give plus the deposit increased to $46k totals $198k and the seller agrees to accept that reduced total.

If you are applying for a loan that is bigger or smaller than 80% of the purchase price, or if have any questions about appraisals, call Chris at 857- 829-0282 or email him at Chris@Isellmass.com.

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