When the real estate market is increasing at a fast pace, sometimes the appraisals don’t match up with the offers that sellers are receiving. Before I tell you what your options are in this situation, it will help you if you understand how appraisals work.
Do Realtors do Appraisals?
Appraisals are different than home valuations which are done by the real estate agent before listing a home on the market. An appraisal is done by an appraiser certified through the North Carolina Appraisal Board and is a much more in depth process than many Realtors use to identify the value of a home. Some agents us a “best guess’ method of valuing a home. Some of them identify features and add and subtract value for those features. Appraisers provide a comprehensive picture of comparable homes and cost variations based on the value of features in a particular area.
The Problem with Appraisals
Appraisals are dependent upon historical value rather than growth. When an appraiser estimates the value of a home, s/he is depending upon the value of previously closed homes. S/he can give a value to the rate of increase over time, but there is no real way to estimate what that rate is. While all the elements that hold value (square footage, features, finishes, location) have somewhat concrete values associated with them, the amount of increase over time is just basically a guess. So if an appraiser uses past sales to determine the value of a currently for sale home and attaches a 2% increase for time passed, how do properties increase as much as 7-10% like we have seen in the past couple of years?
One way is that when multiple offers are made on a property, buyers offer over the list price in an attempt to win the bid. It is true that the properties don’t appraise for the increased price, but buyers, desperate for a place to live are paying cash to cover the difference between appraised value and offer price. Then, when a new home is listed, the appraiser can use the recently sold home as a comparable property to determine value for the newly listed home. And so prices rise, even though appraisals are based on past sales.
What Can I do if the Home Doesn’t Appraise?
If the appraisal comes in too low, there are really only two options.
Re-negotiate price ~ This should always be the first step, but keep in mind that not all sellers are willing to renegotiate price, especially if there were multiple offers. Sometimes it is in their best interest to negotiate because there is usually less competition the second time a property is listed. If this is the case and their agent can help them to understand this, they will be likely to negotiate.
Pay cash out of pocket ~ If the seller refuses to renegotiate the price and the buyer wants to continue with the transaction, the buyer can pay the difference between the sales price and the appraised value in cash at the closing table. Remember, that the lender will only lend against the appraised value of the home. Some points to keep in mind:
- If there weren’t multiple offers and if the average home doesn’t sell in less than 10 days in the area of interest, and the appraisal still comes in low, the home is simply over-priced.
- If the appraisal is done during Due Diligence and you choose to walk away, you are entitled to receive a refund of your earnest money deposit, however, you will lose your due diligence deposit and any money you invested into inspections.
Walk Away ~ if the appraisal is significantly lower than the price of the home it might be worth it to walk away from the transaction. In order to determine if this makes financial sense, determine if the cost of lost expenses are greater than the difference between the contract price and the appraised value.
