An appraisal is a crucial element of the homebuying process. If the appraisal for your home comes in lower than expected, it can have financial implications and potentially disrupt the entire transaction. In this article, we will explore what a home appraisal is, why it is necessary, and how it can impact your home loan.
A home appraisal is an objective and professional evaluation of the value of a home or property. When buying or selling a home, an appraisal ensures that the sale price aligns with the fair market value. This not only prevents the buyer from overpaying but also ensures that the mortgage lender does not lend more than what the home is worth. Given that the home serves as collateral for the borrower, the accuracy of the appraisal holds significant importance. Similarly, when a homeowner refinances their mortgage, the lender will require a home appraisal to confirm its market value before approving the new loan.
The process of a home appraisal involves a licensed appraiser who either visits the property in person or conducts a remote evaluation after receiving an order from the lender. Alongside physically assessing the property, the appraiser also analyzes recent sales of comparable properties, known as “comps,” in the surrounding area. This information is gathered from various sources such as local multiple listing services (MLS), tax records, real estate agents, and county court records. The appraiser also takes into account the neighborhood surrounding the property, recognizing that a newer home in a developing subdivision may appraise higher than an older home in a declining community.
To provide an overview of the appraisal process, here are the key steps involved:
1. Your lender orders the appraisal after your offer is accepted and the purchase agreement is signed.
2. The appraiser assesses the home either through an in-person visit or remote evaluation.
3. The appraiser reviews comparable properties and conducts a market analysis to determine the home’s value.
4. The appraiser delivers a report, typically the Uniform Residential Appraisal Report, to the lender. As the borrower, you are entitled to a free copy of this report before the loan closes.
During a home appraisal, various factors are considered to determine the value of the property. These factors include the location of the home, the neighborhood (urban, suburban, rural), the square footage of the house and lot, the layout of the house, any hazards or adverse conditions, the age and condition of the foundation, roof, walls, and overall structure, amenities such as a fireplace or swimming pool, the condition of appliances, sales trends and price ranges for comparable homes in the area, and any associated rental income or fees. The cost to build a similar home from the ground up is also taken into account.
Appraisals are based on a range of factors, some of which extend beyond the property itself. For example, if a neighborhood has experienced distressed home sales, it can impact the value of nearby properties, regardless of their quality. The appraiser primarily relies on factors such as location, age, size, amenities, and condition of the home, along with comparable sales, to determine its value.
If the appraisal comes in lower than expected, it can present challenges in a home sale. In such cases, carefully review the appraisal report for any errors that may have affected the valuation. If your sale contract includes an appraisal contingency, which allows you to exit the deal if the appraised value is below the agreed-upon price, you can choose to back out and receive a refund of your earnest money deposit. Alternatively, you may negotiate with the seller for a price adjustment closer to the appraised value. If you still wish to proceed with the purchase but the seller is unwilling to negotiate, a lower appraised value may require you to contribute additional funds to the down payment. In the case of a loan refinance, you may be able to proceed by bridging the gap in value. It is also advisable to seek a second opinion if you believe the initial appraiser made factual mistakes that impacted the valuation.
For homebuyers, understanding the contingencies in your purchase agreement is essential. Appraisal contingencies allow you to withdraw from the deal if the appraisal does not meet your expectations. Avoid offering more than you can afford, even in a competitive market, as it may strain your finances. Accept that you have limited control over the appraisal results and ensure that you have appropriate contingencies in place to protect yourself if the valuation is not in line with your expectations.
For refinancers, providing the appraiser with a list of comparable properties and their details can help avoid a low appraisal. Additionally, documenting any renovations or repairs you have made to the property and providing supporting evidence such as photos and receipts can improve the appraised value. Making your home presentable by cleaning, decluttering, and maintaining the exterior can also positively influence the appraisal result.
While appraisals are the most accurate method for determining the fair market value of a property, alternative valuation models exist. A comparative market analysis, performed by a real estate agent, examines the local market and your home’s standing within it. Automated valuation models, such as Zillow’s “Zestimate,” offer algorithm-based assessments of your home’s value using publicly available data. However, these models are less comprehensive than appraisals and may not consider the property’s condition or provide the same insight into the local market.
In summary, appraisals play a critical role in the homebuying process by ensuring that the sale price aligns with the property’s fair market value. Understanding the appraisal process, preparing for it, and knowing your options in case of a lower-than-expected appraisal can help navigate potential challenges and protect your financial interests.
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