If you're in the market for a new home, you may be finding that homes are appraising for less than the contract price. This is causing some deals to fall through, and it's a frustration for buyers and sellers alike. So what's going on and what can you do about it?
The current housing market is characterized by low inventory and high demand. This means that homes are selling quickly, often for more than the asking price. However, the appraisers who determine the value of a home for loan purposes are using data from months (or even years) ago when prices were lower. As a result, they may not be taking into account the recent increase in prices. While this is true in some cases, many sellers are simply trying to cash in on the current market and are listing homes for way above market value, and because of the lower inventory, people are still making offers.
This can create a problem when buyers are trying to get a loan to purchase a home. If the appraisal comes in lower than the contract price, the buyer may not be able to get a loan for the full amount. In some cases, this can cause the deal to fall through. While having the deal fall through can be disappointing, some buyers who did not take proper precautions when signing the contract are finding themselves on the wrong end of lawsuits seeking to enforce the contract.
If you are planning to purchase a home, it is critical to be aware that the house may not appraise for the full purchase price and take proper measures to protect yourself. Here are some tips to help you deal with the possibility that your dream house may under appraise.
TIP 1: Bid Responsibly
Overbidding can lead to the house appraising less than the final contract price. When bidding on a house, it is important to always stay within your budget. While trying to outbid other interested buyers can be tempting, this can lead to financial difficulties down the road. If you are not careful, you may end up with a mortgage that is larger than you can afford, leading to missed payments and damaged credit. In addition, if the housing market declines, you may find yourself "underwater" on your mortgage, owing more than the house is worth. To avoid these risks, it is essential to always bid on a house based on what you can afford. By doing so, you will protect your finances and give yourself the best chance of success as a homeowner. Responsible bidding is even more crucial when there is low inventory and high demand.
TIP 2: Always Include an Appraisal Contingency in the Contract
As an experienced real estate attorney knows, an appraiser's job is to value the property as of the date of the appraisal. The appraised value may be different than the sales price in the contract. For example, if the sales price is $500,000 and the appraisal comes in at $475,000, there is a $25,000 difference. If the parties have not included an appraisal contingency in the contract, the buyer is still obligated to purchase the property for $500,000. However, if an appraisal contingency is included in the contract, and the appraised value comes in below the sales price, then the buyer can back out of the contract without penalty. As a result, an appraisal contingency protects buyers from overpaying for a property.
Simply stated, without an appraisal contingency in the contract, the buyer is agreeing to purchase the property for the sales price without any regard for the property's appraised value. This means:
1) The buyer could end up overpaying for the property.
2) If the property doesn't appraise for at least the sales price, the buyer may have a difficult time securing financing from a lender.
3) The buyer could be taken advantage of by a seller who knows that the property is worth less than the sales price.
4) If the property is purchased without an appraisal contingency and then later appraises for significantly less than the sales price, the buyer could have difficulty reselling the property or may even owe money to their lender if they borrowed money to finance the purchase.
5) Without an appraisal contingency, the buyer is also generally waiving their right to cancel the contract if they are not satisfied with the results of the appraisal. This means that once an offer is accepted without an appraisal contingency, the buyer is generally committed to going through with the purchase even if they are not happy with the appraised value.
In the unfortunate event that a buyer waives his right to an appraisal contingency and the seller refuses to cancel the contract, the buyer may end up being sued for breach of contract.
Simply stated, without an appraisal contingency in the contract, the buyer is agreeing to purchase the property for the sales price without any regard for the property's appraised value.
TIP 3: Negotiate with the Seller
In some cases, you may be able to negotiate with the seller to lower the purchase price to match the appraised value. However, if the seller is unwilling to do so, you may need to either find another source of financing or walk away from the deal altogether. Of course, the ability to walk away from the deal requires an appraisal contingency clause in the contract.
TIP 4: Request a New Appraisal
If the appraisal is lower than the sale price, you may be able to request a ask the lender for a second appraisal or a "re-review." If the lender agrees to a second appraisal, you can either pay for it yourself or ask the seller to pay (as part of your negotiation). In order to get the lender to agree, you will need to make a strong case for why you believe it is necessary. You will likely need to provide evidence that the first appraisal was inaccurate in some way, such as by showing that comparable homes in the area have sold for significantly more than the appraised value.
TIP 5: Pay the Difference
If you are deadset on moving forward with the purchase despite the house under appraising, you can pay the difference between the sale price and the appraised value at closing. Of course, this is not a viable option for everyone. Some buyers do not have the cash on hand to be able to afford to pay the difference. Again, if there is an appraisal contingency in the contract, the buyer can cancel the deal. However, without the contingency, the buyer may be stuck.
TIP 5: Pull Out All the Stops
While it is not a common solution and often does not work for the seller, there are those limited opportunities when a seller may not need to close on his sale immediately and may be able to offer a "rent-to-own" scenario.
Under this scenario, the seller would enter into an agreement with the buyer to rent the property to him until the difference between the sale price and the appraisal are satisfied. Thereafter, the buyer/renter is contractually obligated to purchase the property at the agreed-upon sale price. Again, this is not a common solution and will typically only work when the seller has an income property that he is trying to sell. This is a "pull out all the stops" attempt that may only work 1 out of every 500 sales.
In addition to the rent-to-own possibility, there may be other outside-the-box possibilities that may exist but it is rare that these "Hail Mary" plays will work. For example, in theory, a seller could agree to reduce the sales price to match the appraised value and then enter into a private loan agreement, outside of closing.
TIP 6: Always Have a Qualified Attorney Assist You
When you are buying a home, it is critical to have an experienced real estate attorney represent you. An attorney can: 1. Help you navigate the complex legal process of buying a home; 2. Review and negotiate the purchase contract on your behalf; 3. Represent you at the closing of the sale; 4. Help you resolve any disputes that may arise during or after the purchase of your home; 5. Provide you with peace of mind throughout the entire process. Hiring an attorney to represent you when buying a home is one of the best decisions you can make. An experienced real estate attorney will guide you through the process and protect your interests every step of the way.
If you're buying a home, it's important to be prepared for the possibility that the house may appraise for less than the purchase price. By bidding responsibly, including an appraisal contingency in your contract, and negotiating with the seller, you can minimize the risk of having to pay more than you expected or being sued by a seller for breach of contract.
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