A home appraisal is an estimate to determine the market value of a home. In addition to purchase loans, appraisals are also ordered when refinancing a loan or when attempting to remove private mortgage insurance (PMI).
Lenders require professional appraisals to ensure that they aren’t loaning you more than they can recoup if you default on the loan, so they’re more about protecting the lender than the homebuyer. Though, it’s beneficial to the homebuyer too — no one wants to pay more for a home than what it’s worth.
Mortgage lender appraisals are governed by the Appraisal Independence Requirements (AIR) and intended to make sure that appraisals are fair and independent of the bank’s interests.
While appraisals are important for both the lender and homebuyer, a poor appraisal can mean your mortgage application won’t be approved. Below are five of the common appraisal issues that can put your mortgage application at risk.
1. Appraised value is lower than the sale price.
Regardless of what your sales contract says about the value of your property, the mortgage company will make its own determination. To help make this determination, lenders use an independent evaluation of the current market value as reported by a licensed appraiser.
The appraiser evaluates current market value by researching public records about the property and considers the following factors:
- Sales prices of recent property sales in the area as well as any local sales price trends
- The average time properties sold in the area and the balance of buyers and sellers
- The home’s overall condition and any home improvements made since the last date of purchase
- The number of bedrooms and bathrooms compared to other neighborhood properties as well as amenities like fireplaces, decks, bonus rooms, garages, and landscaping
- The lot size and neighborhood zoning restrictions
- The home’s uniqueness (more on this below)
For example, the 2,000-square-foot home you made an offer on is listed at $200,000, or $100 per square foot. The appraiser researches a database that lists all previously sold homes and compares those sold homes with your home. These previously sold comparable homes are referred to as “comps.”
Three comps sold for $80 per square foot, not $100. The appraiser continues their research and makes a physical appearance at your home, trying to justify the $100 per square foot price. If the appraiser can’t find out why the home is worth $20 more per square foot, then the appraiser will state a value closer to $160,000.
If the appraised value comes in lower than the sale price, then the seller would need to drop the price to the appraised value, or you as the buyer would have to come up with the difference in cash. Though, option two is never advisable as it means you’re likely paying more for than home than it’s worth.
2. Deferring maintenance on critical repairs.
When properties are appraised, they’re evaluated on an “as-is” basis. This means the property is inspected based upon its current condition and not including any future improvements or repairs. Properties must meet certain minimum standards before a lender will approve a loan. If there is evidence of major deferred maintenance on the property, the mortgage will likely be declined.
One of the most common deferred maintenance items is roof repairs. If the roof appears to be in poor condition in the appraisal pictures, then often lenders will ask for a certification from a roof inspector estimating the remaining life of the roof.
Other deferred maintenance issues that may also get flagged: broken window panes, leaking water lines, missing handrails, broken heating systems, or noticeable electrical problems.
Government-backed loans like FHA, VA, and USDA have some additional property standards than conventional loans. For example, all properties built before 1978 require repairs for peeling paint due to do lead paint concerns.
Generally, sellers defer maintenance to save costs, but often delaying these repairs can halt the sales process altogether. In fact, most lenders will ask that the repairs be fixed before issuing a mortgage loan.
3. Habitability concerns are flagged.
An extreme form of deferred maintenance is any physical issue with the property that can affect whether or not the property is actually habitable.
One of the main habitability concerns with a property are structural issues such as noticeable cracks in the foundation which can suggest unstable settling of the property. This often will prompt an engineer’s report to determine whether or not the foundation is in proper shape.
Foundation repairs can be costly — the average cost is $4,000, while major repairs can cost as much as $10,000. And, if the foundation needs to be replaced, then the cost can be as high as $100,000.
Lenders often won’t approve home loans for properties that need such extensive repairs, but government-backed loans like FHA loans have rehabilitation mortgages available that allow borrowers to finance the home as well as the needed repairs. Two common FHA rehab loan types: FHA 203(k) Rehab Mortgage and HomeStyle Renovation Mortgage.
Will a bank finance a house with asbestos?
The short answer: It depends. It may become an issue for government-backed loans with strict minimum property standards. In particular, if the asbestos could pose a health hazard to the homeowner.
Most houses built before 1980 have some form of building material that contains asbestos. If the building material isn’t damaged (also known as friable) then the harmful fibers aren’t airborne, which is where the health hazard occurs.
Common building materials that used asbestos: types of insulation, floor and ceiling tiles, siding, roof shingles, and flooring glue.
Where the biggest health risk with asbestos occurs is during remodels or renovations when the asbestos-laden building materials can get damaged and cause the fibers to become airborne. Laws pertaining to asbestos vary by state. Many require that homeowners test for asbestos as well as have it removed by a licensed asbestos contractor prior to the start renovation projects.
4. Unique property without local comparisons.
The appraisal reflects data comparing the market value of the home with similar properties that have sold in the area. The key word here is “similar.”
For example, if you’re buying a duplex and there are no duplexes around for miles, then there are no comparable sales with which the appraiser can determine value. Extreme examples would be atypical properties like a geodesic dome or a log cabin, which are rare in most areas.
5. Declining market in the neighborhood.
The appraiser is required to assess the real estate market in the neighborhood by selecting one of three choices: increasing, stable, or declining. If the property is in a neighborhood that has experienced declining values over the previous 12 months, then the lender can ask for more money down, regardless of what the final value may be.
If the borrower doesn’t have the extra funds for a down payment, then their mortgage could be declined.
How to avoid a low home appraisal
If you’re concerned that the property you’re hoping to refinance or purchase may appraise for lower than the current market value, then it’s best to work with an experienced real estate agent and ask your lender’s opinion before moving forward with an offer or paying for an appraisal.
They’ll be able to help identify potential appraisal problems that can put your mortgage at risk as well as how to remedy them or negotiate with the seller.