Under Appraisal Risk
Eric Zunkley
I received an email from a lending offer discussing some strategies for dealing with under appraisal and I wanted to talk about them.
"When home prices increase rapidly like they have. Appraisers can have a difficult time or don't put in the effort to appraise properties at the current market value, this can lead to appraisals coming in low and ruining transactions... "
What is an appraisal?
If you're getting a loan to purchase real estate the lender will want to verify that the property has value to support the loan. The lending officer does this by ordering an appraisal from a neutral third party that's paid for their services. The most common method for valuing a residential home is the sales approach. The appraiser will look at the comparable properties that have sold within the last 12 months within a mile radius. This distance can change depending on the location and the quantity of recent sales. Appraisers like to stay within any natural boundaries like freeways or rivers. The appraiser will select 3 comparable properties and make adjustments to each property to make it similar to the subject.
What is under appraisal?
An under appraisal is a difference between the purchase price and the appraisers opinion of value. If you're buying a home for $500,000 with 20% down ($100,000) and it appraises for $480,000. You have have an under appraisal of $20,000.
When your property is under appraised there are a few ways to fix the problem.
1. Seller accepts a reduction in the purchase price to the appraised value.
2. Buyer makes up the cash difference in appraised value and the purchase price. This may require the buyer to use cash that would have gone towards the down payment and result in a higher loan to value ratio.
3. Buyer and Seller come to a mutual agreement on a price and they both share the burden.
4. Challenge the appraisal.
5. Cancel the contract if there can't be an agreement.
Buying a home in Los Angeles can be very competitive. In a multiple offer situation in order to get the property under contract you need to be aggressive with your offer. Unfortunately the risk for under appraisal can't be completely eliminated. You can be better prepared by getting a list of comparable properties that have sold in the area and accept the possibility that you might need to make up any difference.