You already know that in order to get a mortgage, you’ll have to get an appraisal, which is a written opinion of the property’s value.
The lender needs this so that they can be sure the property provides adequate security for the loan. When they agree to give you thousands of dollars, they always have in the back of their minds what they might have to do if the borrower stops making the payments. If that were to happen, the lender would have the ability to foreclose and sell the property at auction to get their money.
What is an appraisal, anyway?
Please note the definition I offered above: a written opinion of value.
On the other hand, this doesn’t mean that some guy pulls a value number out of his…hat. An appraiser is a licensed professional with a significant amount of training and experience. He (or she) goes through a systematic process to arrive at an estimate of value—the number the lender uses when approving your loan.
The Subject and “comps”
There are a number of steps in the appraisal process. First, the appraiser will describe the property in question, the “Subject,” in a standardized way: living area, number of rooms, bedrooms, baths, amenities, upgrades, lot size, etc. Then he will identify properties close to the Subject and similar to it, that have sold within the previous six months. These are comparable sales, or “comps.” This information generally comes from the local Multiple Listing Service, although appraisers may go through all the public records to find usable comps.
Then the appraiser adjusts each comp to make it the equivalent of the Subject. If a comp is “superior” to the Subject, the appraiser will subtract from the selling price. If it’s “inferior,” he will add to it. If a comp is just like the Subject but with 200 square feet more living area, he’ll apply a per-foot factor—around $85 per square foot, or $17,000—to the comp’s selling price. If that were the only adjustment and the comp sold for $400,000, the adjusted selling price would be $383,000.
The appraiser will go through the same process for all of the comps, arriving at Adjusted Sales Prices. He will calculate a weighted average of the comps—at least three of them—to arrive at his “Opinion of Market Value.”
It’s too low!
It is possible that the Opinion of Value is too low to accomplish what you want. You may be expecting to put 20% down to avoid mortgage insurance. If the appraisal was too low, you will be faced with the possibility of making a larger down payment, or of paying mortgage insurance.
What can you do when the appraisal was too low?
You have a couple of options.
The first, if you are buying a property, is to attempt to renegotiate the price with the seller. They may realize that they are too high for the market, and drop their price. This, of course, would be the best outcome.
The second is simply to accept the appraised value and put up more money (if you are buying) or pay monthly mortgage insurance. But what if neither of those choices is acceptable?
Reconsideration Of Value
You can request a Reconsideration Of Value (ROV). This involves filling out a form with some additional information that you believe the appraiser missed or disregarded, and submitting it to the appraiser’s company. They will give that ROV to the appraiser and ask him to comment—in other words, they’ll ask him to defend his work.
Here is some insight into mind of the appraiser: when he prepares his report, he is already thinking about how he might have to defend his work. In order for you to get him to raise his estimate of value, you’re going to have to show where he has made actual errors.
What mistakes might an appraiser make?
If the appraiser disregarded comparable sales that might support a higher value, you can present them and ask his reason for disregarding them. If one sale was a “model match” to the Subject and he ignored it or missed it, that was probably a mistake—one that he should fix.
Was one of the comps a trashed-out former rental that was in dire need of paint, carpet and upgrading? He should have applied a positive adjustment to that comp. If he didn’t, that would be another mistake.
Has the market been rising consistently? He is supposed to be aware of market trends. If one of the comps in his report is five months old and the market is appreciating at 10% per year, the appraiser should apply a positive adjustment to the comp, raising its price.
Some of the adjustments appraisers add are based on their judgment: does this property have better upgrades than the subject? Better location? Better condition? There could be two nearly identical properties in the same development, but if one of them backs up to the freeway with all its noise, an appraiser would be justified in adjusting its sale price by $15,000 or more. If he did NOT make the adjustment, that would be an oversight that affected the final appraised value.
Finally, when the appraiser evaluates the comps he selected and adjusted, he arranges them in order of importance and similarity to the subject. Then he calculates a “weighted average” of the values. This means that some comps have more or less influence on the final value. How he chooses to perform that calculation influences the final value. If he assigns a very low weight (influence) to a good comp, he could arrive at a value that is lower than it should be.
The ROV your loan officer prepares and submits to the appraiser’s company should consider all these factors.
No changes? What now?
What if the appraiser says, “I’m sticking with my value” and refuses to change his number? Here again, you have choices. You can accept the value he provided and do whatever is necessary to hold your transaction together. That may mean coming up with a larger down payment, paying mortgage insurance or paying some cash when you are refinancing.
You can also request a new appraisal from a difference appraiser. The chances are that you will have to pay for this, but there are other considerations besides the cost. The current regulations affecting mortgage finance discourage “shopping” for an appraisal. The reports are actually registered in a central database, so you must justify the need for a second report. In order to do this, you would have to make a case that the original appraisal was “deficient.” Your loan officer will communicate with the appraisal company to order the replacement appraisal. As long as you and your loan officer can offer reasons why the first appraisal had actual problems, you should be able to get the new report.