You’re in the process of buying a home, and so far things have been going pretty smoothly. Your lender has pre-approved you, your Realtor has found you the perfect home, and with a bit of luck, the seller accepted your offer and now you’re in contract. It’s very likely that early on in your loan process — usually within the first few days of having your offer accepted — your lender ordered an appraisal. From there, a licensed appraiser went out to the property and then turned in a completed appraisal report (which, at its core, is a professional opinion of value). Of course, you know the dollar amount you’re paying for the home because that figure is on your contract. But what happens if the appraisal doesn’t support that price? What happens if the appraisal comes in low, or for that matter, high? Let’s take a look.
My Appraisal Came in Low
I’m in California and I like to use round numbers, so let’s say you’re buying a home for a cool $1,000,000. You are putting 20% down ($200,000), and you are getting a loan for $800,000. We would say your loan-to-value (LTV) is 80%. When your lender pre-approved your loan, he probably structured most of the important aspects of your financing, such as program selection, approval guidelines, interest rate, etc., on the assumption you would have an LTV of 80% or less. Let’s say the appraiser goes out to the home, does the best job she can and after all comparable properties (“comps”) are analyzed, can only support a value for the home of $975K. How does the lender react to this information? For conventional mortgages, the lender will use the lesser of the purchase price or appraised value to determine the LTV. This is the key concept and we’ll come back to it in a minute and in a different scenario, but for now, let’s go to the chalkboard and do the math:
- $1,000,000 Contract price
- ($1,000,000) Assumption of value
- $800,000 Loan amount
- 80% Loan-to-Value
- $1,000,000 Contract price
- $975,000 Appraised value
- $800,000 Loan amount
- 82% Loan-to-Value
Houston, we have a problem. If your loan approval has rested on the assumption that you have an LTV of 80% of less, we can see that this is no longer the case. This buyer might pursue these options to remedy the matter:
- Use a different loan program that might accommodate the higher loan-to-value. This might mean taking PMI (private mortgage insurance), or using a piggyback loan, for example.
- “Making up the difference in cash.” To produce an 80% LTV against a value of $975K, the loan amount would be $780K. Assuming the purchase price stays at $1MM, this buyer, who would have previously made a down payment of $200K, will now need to make a down payment of $220K.
- Renegotiate the contract. Often, we’ll see the buyer go back to the seller and ask for some concession on the price. Maybe the seller will be willing to reduce the price slightly to keep the transaction moving forward, instead of falling out of contract and starting over with a new buyer.
- Rebut the appraisal. Perhaps factual error or oversight of a strong comp caused the appraised value to be lower than it might be otherwise. Buyers can opt to have their lender pursue a reconsideration of value. Word to the wise, many rebuttals come back with no change. In other words, they uphold the original appraisal. But most also chew up a lot of contractual time. Pursuing a reconsideration can be a gamble with a low probability of success.
- Try a new appraisal? Hold on a second — this is not a valid option, but I bring it up because we do get the question. So long as you stay with the lender who performed the original appraisal, ordering a new appraisal to “value fish” is not permitted.
The last important point about a low appraisal value is that it may only matter to the buyer whose loan is near an important loan threshold or guideline. In our example above, the reason the low appraisal triggered significant changes is because the 80% LTV threshold is important in conventional lending. And there are others like it you may not recognize, but that your lender can explain. However, let’s say our buyer above was putting $500K down on a purchase of $1MM (50% LTV) and the appraisal comes back at $975K. Now the LTV is 51%. Big deal. No key lending thresholds are crossed and this borrower very likely sees zero change to his terms.
What Happens If My Appraisal Comes in High?
Well, this paragraph is going to be a lot shorter. In conventional lending, and for a purchase transaction, you cannot “monetize” an appraisal value that comes in above the purchase price. Again, we use the lesser of the purchase price or appraised value to determine LTV. Still, it’s great news. You are getting a deal on the home, but in terms of making a smaller down payment or otherwise leveraging the higher value, there are “no dice” here. Yes, down the road that higher value might allow you to refinance with greater ease and/or better interest rates, but practically speaking an appraisal that comes in higher than contract price is really just a vote of confidence.
If you’re reading this post and find yourself in a bind because your appraisal just came in low, don’t hesitate to get in touch. We have a large selection of mortgage programs that grant more flexibility with LTV, and we have a lot of experience navigating the loan process together with the intricacies of fulfilling requirements of your contract. We’re here to help with your mortgage needs whether your appraised value comes in high, low or right on the money.
Thing of value,
Robert J. Spinosa
Vice President of Mortgage Lending
Marin Office: 324 Sir Francis Drake Blvd., San Anselmo, CA 94960
Berkeley Office: 1400 Shattuck Ave., Suite 1, Berkeley, CA 94709
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