What Happens if the Appraisal Comes In Too Low on my Investment Property?
It’s the worst nightmare of every seller — what happens if the property “doesn’t appraise?”
Of course, this is a euphemism. It’s not like the appraiser is going to visit the property and then run away to join the circus. (At least, not usually.) No, if you hire an appraiser, that appraiser is definitely going to give you an opinion of that property’s value.
So what does it mean if a property “doesn’t appraise?” It means that the appraiser comes back with an appraised value lower than the purchase price on the contract.
So what, right? The buyer and the seller agreed to the price; what does the opinion of the appraiser matter?
Here’s why the appraisal matters … and why it could be a problem if it comes in too low …
What Is The Purpose of the Property Appraisal?
Let’s go back to basics — why is the appraiser there in the first place?
Yes, appraisers offer professional opinions of the value of the property … but realtors, investors, even most homeowners are smart enough to come up with a pretty good idea of a property’s value.
With homes, it’s particularly easy — you just find out what similar nearby homes have sold for recently. There’s an industry term for this — comparative market analysis (CMA). Realtors do them all the time.
So why pay the appraiser?
The appraiser is there not for the buyer, not for the seller, and not for the realtor. The appraiser is there for the lender. In fact, if the buyer intends to pay all-cash with no mortgage loan, there’s actually no reason for the appraisal.
But if a mortgage lender is going to write a six-figure check with the property as collateral, she needs to know what the property is actually worth. Otherwise, if the borrower defaults and the lender has to foreclose, she may find herself with a lemon property she has to sell at a loss.
So she needs a professional opinion of the property’s value … and that opinion of value needs to come from someone neutral.
The realtor isn’t neutral. He gets a commission if the deal closes.
The buyer may not be neutral. She may really really want the property and be willing to overpay for it.
The seller is not neutral. He wants the highest price he can get — whether the home is worth that much or not!
The appraiser? She has no dog in the fight. The appraiser is the only party to the transaction with nothing to gain at closing (she gets paid either way). So hers is the only opinion the lender can trust.
What If The Appraisal Comes Back Too Low?
Suppose you want to buy a house in Detroit as an investment property. You and the seller agree on a sale price of $150,000. Your lender is willing to lend 80% loan-to-value. 80% of $150k is $120k. All you need to bring to the table is a $30,000 down payment (plus closing costs) and the house is yours!
… except that pesky appraiser comes back with an opinion that the house is only worth $130,000. What to do? You’re still under contract at $150k. Heck, you’re willing to pay $150k because it’s a fantastic location in a growing neighborhood. You think it’s a good deal at that price!
… but the lender. The lender was willing to lend 80% of the home’s value … and the appraiser just told her that the value was $130k, not $150k. Based on that appraisal report, the lender is now only willing to front 80% of $130k — or $104,000.
Where does that leave you? If you want to satisfy that original $150k contract, you no longer have to come up with a $30,000 down payment … you have to come up with a $46,000 down payment. Remember, the lender is only willing to give you $104k! You have to make up the difference.
Do you have the extra $16,000? Are you willing to tie it up? Is the seller willing to renegotiate to a lower price so you still only have to put $30,000 down? This is why “failure to appraise” causes deals to fall apart … and why sellers and their agents try hard to price their listings correctly and only accept offers that will “appraise.”
What If The Appraisal Comes Back Too High?
What if the circumstances are the same as above … but the appraiser comes back with an opinion of value of $170,000? Is the deal in trouble in this circumstance as well?
Not at all. Under these circumstances, the lender would actually have been willing to lend more. 80% of $170,000 is $136,000. She will certainly lend a measly $120,000 against this value.
Now, this doesn’t mean the buyer gets to borrow $136,000 and only put $14,000 down. The lender will still want that 20% down payment so the seller has “skin in the game.” But, this bodes well for a cash-out refi in the future.
The seller may feel a little salty for accepting a price lower than the appraised value, but he’s under contract. There’s nothing he can do about that. Meanwhile, the buyer has the satisfaction of knowing she got a swimming deal!
One thing you don’t have to worry about when buying investment properties from MartelTurnkey is whether or not the property will “appraise”.” Our conservative analysis, collaboration with professionals, and experience in our target markets means we never price our properties above their likely appraised value. And to take it a step further, at MartelTurnkey we often match appraised values! And this still results in some screaming deals with no-brainer ROI profiles.
Click here to see what deals we have in our inventory right now — renovated, rented, and ready to start delivering passive cash flow into your bank account on closing day!