Appraisals are a standard part of the home-buying process unless it’s a cash transaction. For buyers using financing the lender orders an appraisal to ensure that the home is worth the purchase price.
The purchase contract includes an appraisal contingency, which makes the sale contingent on the home appraising for at least the agreed purchase price. If the appraisal comes in low, the buyer has the option to walk away from the deal without penalty and receive their earnest money. This contingency protects the buyer from being forced into purchasing a home that doesn’t appraise for its sale price.
When is an Appraisal Done During the Home Buying Process?
Typically, the appraisal is ordered after the 10-day inspection period, once the buyer and seller have agreed on necessary repairs. Buyers want assurance that the deal is moving forward before committing to the cost of an appraisal, which typically starts around $550 and can go up from there. Paying for an appraisal before repairs are agreed upon could mean unnecessary expenses if the deal falls apart.
Appraisal Shortfall Misconception
There is a common misconception regarding appraisals: many people believe that the property only needs to appraise for the loan amount, not the full purchase price. However, this is incorrect. The appraisal must support the full purchase price of the home. If it doesn’t, the buyer, seller, or both must find a way to make up the difference.
Example of an Appraisal Falling Short
Let’s break down an example to illustrate this:
Purchase price of the home: $600,000
Buyer’s down payment: 20%, or $120,000
Loan amount: $480,000
If the home appraises for $580,000 – $20,000 below the purchase price — the lender will not approve the loan based on the original sale price. Even though the appraised value exceeds the loan amount, the lender won’t approve a loan for more than the appraised value.
There are several ways buyers and sellers can handle a low appraisal:
1. The Buyer Pays the Difference: The buyer agrees to make up the entire shortfall by increasing their down payment. This often happens when the buyer is highly motivated or when the competition for the property is strong. In this example the buyer would need to increase their downpayment from $120,000 to $140,000
2. The Buyer and Seller Split the Difference: In this case, both parties agree to equally cover the difference between the appraised value and the purchase price. This is a compromise that keeps the deal alive while not putting the entire financial burden on the buyer. The buyer would increase their down payment by $10,000, and the seller would reduce the price by $10,000.
3. The Seller Lowers the Purchase Price: In a buyer’s market, the seller may agree to lower the purchase price to match the appraised value. This may be necessary to keep the sale on track, especially if the seller has limited options for finding another buyer quickly.
4. The Contract Is Canceled: If the buyer and seller cannot reach an agreement, the contract is cancelled, and the buyer is entitled to receive their earnest money back.
Navigating a Low Appraisal
A low appraisal can feel like a significant roadblock, but it doesn’t have to derail the sale. Communication and negotiation are key. Understanding the options available — from adjusting the price to covering the difference in the down payment — can help both buyers and sellers move forward.
In a balanced or buyer-friendly market, sellers may need to be more flexible, while buyers may have more room to negotiate. Ultimately, the goal for both parties is to find a solution, a solution that works for everyone,
Can a Low Appraisal Be Disputed?
If an appraisal comes in low and the Realtor feels there’s been a mistake, there are ways to dispute the appraisal. However, it’s important to understand that the chances of overturning a low appraisal are slim. Lenders rarely allow a second appraisal, so there’s typically only one shot at getting the appraisal right.
How to Avoid a Low Appraisal
While appraisals are out of the control of both the buyer and seller, there are steps the seller’s Realtor can take to help prevent a low appraisal. The appraiser should be provided with all relevant information about the home, including a list of upgrades and improvements that add value. The seller’s Realtor should meet the appraiser at the property with a detailed appraisal package.
When selecting a Realtor, sellers should ask whether they will meet the appraiser and provide an appraisal package. Choosing an agent who takes this extra step can help mitigate the risk of a low appraisal.
In conclusion, while a low appraisal can be a bump in the road, it doesn’t have to end the transaction. With proper communication, negotiation, and preparation, buyers and sellers can navigate this challenge and keep the deal on track.
Please don’t hesitate to contact me if you have any questions about the appraisal process.
By Lorraine Ryall, Associate Broker, CDPE, CSSN, CNE
KOR Properties