It is easy to sometimes get lost in the world of real estate terminology. That’s why each week I blog to explain different terms and vocabulary that you should understand when buying or selling a home.
This week is focused on the term “appraisal.”
The term “appraisal” is often conflated with “inspection” and/or “assessment.” But, these all mean very different things. I will address inspections and assessments in a later post. Today I’ll focus on appraisals.
An appraisal is typically done by a licensed appraiser during the purchase of a home on behalf of the lender. The lender’s goal is to make sure the price being offered for the home (and thus the amount being loaned) is not too high in relation to a more generalized market value of the home.
If a home is selling for an amount that is similar to the prices of other sold homes in the same area, an appraisal usually comes and goes without much fanfare. However, when a sale price gets pushed higher, by a bidding war or other factor, the appraisal becomes very important.
Let us, for example, say a home was listed for sale at $225,000. Then let’s say that there are many people interested in the home and multiple offers are received, ultimately driving up the accepted offer to $245,000. Finally, let’s say the appraisal, which is typically based on comparable sales, indicates the home’s value is only $235,000.
In this hypothetical situation, the lender is likely to loan a maximum of $235,000, per the appraisal. In an instance like this, the buyer typically would be responsible for the difference between the appraised value and the offer price.
Further complicating things, this situation could involve some negotiation, as the seller probably doesn’t want the deal to be blown up if the buyers cannot cover the difference between the offer and the appraisal amount. As such, sometimes the sellers will also contribute to keep the deal alive. But, the seller is not required to contribute, and in that case, the buyer would be responsible for the full amount. If they cannot pay the different, they would be in breach of contract and lose the home (along with any due diligence and earnest money).
The takeaway in all of this is that in competitive markets, buyers need to be careful not to “over bid” on that dream home unless they are prepared for the possibility of paying some cash out-of-pocket.
If you have any questions about appraisals, don’t hesitate to get in touch.
- Gary A. Miller