Due to increased demand and low real estate inventory, most parts of the U.S. are currently in a seller’s market. This is great news if you’re trying to sell a home, but not so good for buyers.
Several things can happen in a seller’s market that impact home buyers. Sadly, most of them aren’t in the buyer’s favor.
Low appraisals are a common side effect of a seller’s market. But just because an appraisal came back lower than you were expecting doesn’t mean it’s the end of the world.
In fact, there are plenty of actions you can take if an appraisal comes back low.
The Importance of Appraisals
If you’re like most home buyers, then you won’t be paying cash for a home. Instead, you’ll be getting a mortgage.
There are tons of steps to getting a home loan, and the home appraisal is one of most crucial components of the process.
Whether you are buying or selling a home, appraisals exist for good reason.
A home appraisal is an impartial professional opinion of how much a home is worth. Without an appraisal, buyers and sellers wouldn’t have an unbiased evaluation of their home’s value and neither side would know what price to negotiate.
In a purchase and sale transaction, an appraisal is used to let the lender know that the contracted sales price is supported.
For refinances, appraisals assure the lender that their collateral used for the loan is worth the necessary amount.
Home Appraisals in a Rising Market
In is not uncommon to have low home valuations in a hot real estate market.
The reason is because home appraisals are largely based on comparable home sales that closed prior to the home you’re buying.
In a real estate market where supply can’t keep up with the demand , home buyers may get into bidding wars. These bidding wars drive prices up.
In hot markets, it becomes virtually inevitable that home values will at some point be unable to keep up with how quickly homes are selling. The result – lower-than-expected appraised values.
It is a common saying in the real estate world that a property is worth whatever someone is willing to pay for it. This may be true to some extent.
However, this logic does not mean an appraised value will be able to support the price someone is willing to pay.
What You Can Do If Your Appraisal Comes in Low
Keep Your Emotions in Check
Whether you are the buyer or the seller, it can be a major heart-breaker to have a deal fall apart due to a low appraisal.
When emotions run high, it becomes increasingly difficult to make logical decisions. But remember, this will likely be one of the largest investments you’ll ever make. As such, you need to do everything you can to make rational decisions.
This is when a great real estate agent can be an invaluable asset.
For real estate agents, this is about business. Fall back on them and their expertise to help you make choices that aren’t solely based on emotion.
As painful as it may be, you might even need to prepare yourself ahead of time for the worst-case scenario – walking away.
Renegotiate the Purchase Price
As a home buyer you do not want to pay more than what a home is worth.
Using this logic, it makes sense to request that the seller to drop the price of the home to the appraised value.
This approach may be more realistic if the home has sat on the market for several months. For homes that are newly listed, however, the seller may not be as flexible.
Fortunately for the home buyer, there is no guarantee that a buyer after you won’t end up with another low appraisal.
Also, the longer a home sits on the market, the tougher it is to sell at the highest possible price. Sellers are often willing to meet somewhere in the middle and split the difference.
As an example, let’s say the original purchase price was $250,000 but the appraisal came back at $240,000.
You may be able to renegotiate with the seller to lower the purchase price to $245,000. You would then need to bring the extra $5,000 to cover the difference between the purchase price and appraised value.
Increase Your Downpayment or Pay Mortgage Insurance
If the seller isn’t willing to budge on the price of the home, you may have limited options.
For example, using the same scenario above with a purchase price of $250,000, let’s assume your original goal was to put down $50,000.
$50k down would translate to a 20 percent downpayment, which would get you out of paying private mortgage insurance (PMI).
If the appraisal came back at $240,000, and the seller is not willing to work with you, other than walking away from the deal, you’ll have two options.
- You can increase your downpayment to $60,000. This will cover the difference in the appraised value, and avoid PMI.
While some would argue that you should never pay more for a home than what it’s worth, it’s important to remember that appraisals are merely opinions of value. A low appraisal doesn’t always reflect the true value of a home.
Also, if homes are appreciating at a rate of 5 percent per year, and this is meant to be your “forever home”, five years from now your home will be worth approximately $300,000.
In the big scheme of things, putting down that extra $10,000 may have paid off in many ways.
- You can keep your downpayment at $50,000 and pay PMI for a short period.
If you kept your downpayment at $50,000, this means you’d be covering the difference in the appraised value ($10,000), and then the other $40,000 would mean a downpayment of 17 percent.
17 percent down means you would have to pay PMI. However, let’s assume you have a credit score of 740 or better. Then you would only have to pay roughly $33 dollars per month for mortgage insurance.
Further, because you are only three percent away from that 80 percent equity mark, chances are good that you would only have to pay PMI for about two years.
$33 per month x 24 months = $792.
For some, paying $792 over the course of two years is much more feasible than coming up with an additional $10,000 right now. Not to mention, paying an additional $792 may be well worth getting into your dream home.
Dispute the Appraisal
Another option when an appraisal comes back low is to rebut the value. You may want to evaluate the data and other logistics used for how the appraised value was determined.
Remember, an appraisal is an opinion of value. Different appraisers may use different comparable sales to derive their value.
Your lender and your agent can offer you advice as to whether the appraiser used the most relevant and comparable sales, and if they feel a value dispute is warranted.
Low Appraisals Don’t Always Mean the End of The Road
A low appraisal can happen for a variety of reasons. Fortunately, a low value doesn’t have to be a deal breaker.
Whether you are the buyer or the seller, you should understand how the appraisal process works.
Knowing your options, and working with a good lender and a good agent can be the key to overcoming a low appraised value.