We primarily work with Realtors and Borrowers. During transactions in a ‘hot market’ like right now it is not uncommon to experience an “appraisal cut”. It’s really not a cut but we industry peeps call it that when the appraisal value comes in lower than the sales price. Here’s why this happens and why an Appraisal Cut is actually an opportunity for the buyer.
The Appraisal Protects you and the Lender
An Appraisal Report is almost always required in a purchase transaction when financing is being used. This appraisal is required by a Lender. The purpose of the appraisal is to establish the Fair Market Value. To make sure a lender isn’t apart of a scheme or lending on an over inflated purchase price. They also want to verify what their equity position so they can determine Loan To Value and to make the loan salable on the open market. Among may other things these are the main items a lender is looking for.
Whew… But the appraisal also protects the buyer. Just because a Realtor and a Seller and a Buyer agree to a sales price it doesn’t necessarily mean that purchase price is the fair market value. What IF the buyer agent wasn’t all that good? Maybe he doesn’t realize the property is WAY over priced? Or worse, maybe he doesn’t care and just wants his commission. Rare, but unfortunately possible. The appraisal done by an IMPARTIAL certified appraiser make sure Buyers don’t fall prey to these mistakes, or intentional acts.
Is the Appraised Value Low or is the Sales Price Too High?
When a value comes in low, or notes required repairs, or has a “subject to value”. All parties should review the appraisal. And here is where your opportunity comes in. IF you have an Appraisal Contingency, you can back out of the transaction. Now most people don’t want to do this. If you like the house, its renegotiation time! Realtors hate it, but its a fact sometimes. You can ask the seller to reduce the price. They may not of course, especially if there are other qualified buyers in the wings; or you can also pay the difference in cash if you like the house. You can also renegotiate, maybe have the seller cover some closing costs, or make some repairs, or include some fixtures.
No one wants to drop out of escrow when an appraisal comes in. And if you are asked to make an offer without an appraisal contingency, be warned. You may still have to complete a purchase or be liable for damages if you don’t close even if the appraisal comes in short. If this happens in your transaction, work with your Realtor and take their advice. Sometimes, you have to pay more than an appraised value. But be open to compromise if you really want the property.
Sometimes it is what it is.
In hot market purchase appraisers have to use closed comparable sales. The listings may make it seem like values are higher. And in fact, people are probably paying more for homes already. But closed sale values lag hot market condition values.
But remember the appraisal is your friend and so are Appraisal Contingency’s
Michael A. Foote, CMB. Certified Mortgage Banker, Licensed Real Estate Broker 01149645 and runs a California Based Boutique Mortgage Brokerage and Contract Mortgage Processing Company. www.michaelfoote.com