What Happens if the Appraisal Comes in Low on a Real Estate Transaction?

Westcoe Realtors, Riverside California…This is a very good question given the appraisal issues we face in our current real estate market…and one that does not have an easy answer because there are so many variables.  However, easy or not, we’ll do our best to give you some basic guidelines in case you find yourself in this position one day.

First, understand that most buyers or sellers fail to grasp that there are 3 players in their “purchase game”, not 2.  It is not just about the seller and the buyer, but also the bank who is being asked to make the loan to the new buyer…and the bottom line here is that the buyer and seller can agree to whatever makes them happy, but it is the new lender that will decide if this game is played at all…and trust me, we all need to play by their rules, or the lender will take their ball (or in this case, their loan) and go home…and no one gets to play at all.

Therefore, no matter what price the buyer and seller negotiate, the lender will want to make sure that the property is worth that amount before they will lend their money to anyone.  You can’t blame them, especially in light of the real estate events of the past 2 years.  Hence, the appraiser is the banks representative for the property value.  The lender will send the appraiser to the home, and once the home is viewed and analyzed by the appraiser ( how they do their job is the subject of some future blog) said appraiser will arrive at a value.  So…what happens if the appraised value is lower than the sales price?

In a general sense, unless there have been some unique provisions made in the purchase contract, the buyer does not have to pay the higher sales price, and the seller does not have to accept the lower appraisal price.  In other words, all bets are off, and everyone goes back to the drawing board to re-negotiate the sales price.  And what are all the options at this point?

Have the appraisal reviewed or appealed.

You can appeal the appraisal, but good luck with that. This is mostly an exercise in frustration, but if your agent has some really strong comparable sales that they feel were not considered by the appraiser, then have at it.  Just be forewarned that this process is sometimes lengthy, and rarely successful in our current lending climate.

The buyer can pay the original sales price, not the lower appraisal price.

Yes, the buyer can do this, but it involves two principals that usually make this a seldom visited road to closing.  The first is that the buyer must now pay the difference in the appraisal price and the sales price in cash…and most buyers are not willing (or not able) to do this. 

For example, let us assume that the buyer and seller originally agreed to a $200,000 sales price, with the buyer paying 10% down in cash ($20,000) and receiving a 90% loan ($180,000) from the lender.  Now let us deal with an appraisal that values the home at $180,000 instead of the original $200,000 sales price.  Now, the lender will only lend 90% of the appraisal price, which would be $162,000…and that means if the buyer is willing to pay the original $200,000 sales price, they now need to put $38,000 down instead of the original $20,000.  Most buyers either can’t, or won’t, pay this additional amount in cash.

Secondly, there is the psychological aspect to asking the buyer to pay more than the appraisal price.  Many just won’t go there.  The appraiser has now caused doubt in the mind of the buyer, and unless they remain really convinced in the higher sales price as the real indicator of the home’s value, this doubt eats away until the doubt rules the day…and the buyer says “no”.

The seller can reduce the sales price to the new, lower appraisal price.

While this is no fun for the seller, many times it is the most viable solution if the transaction is going to go forward…depending on how big the gap is between the two prices, and how “taken advantage of” the seller feels.  If the original sales price was perhaps a stretch, and the appraisal value is relatively indicative of what any other appraiser would value the home, then the seller would be wise to close the escrow at the lower appraisal price since if they had to do this all over again with a new buyer, they might be back in the same boat.

However, if the original sales price was realistically based on other sales comparable to the property, and the appraiser was just having a bad day, then the seller may decide to pass on making this transaction happen with the current buyer and fish for a new one…and hope appraiser #2 is having a better day.  Each seller is different, so each transaction is different as well.

Foreclosed properties

In today’s market, if the seller is a foreclosure being sold by a bank, then many times it is easier to get the bank to drop to the new appraisal price because there is less emotion involved…but be careful what you ask for.  Many buyers (and their agents) are purposely overbidding the home by a significant amount just to get their offer accepted, and then counting on the appraisal to bring the value down to a more reasonable level.  Be careful here.

First, you may get an appraiser who sees things differently, and brings the value in higher than you are willing to pay.  Oops.

Secondly, banks who are selling the home are not stupid…they know what is going on here.  Many times they require the buyer to agree in the purchase contract to pay the higher sales price in case the appraisal comes in low…or will reduce any costs they are being asked to pay by whatever amount they need to reduce the sales price.  Hence, your tactic may not work…and since the seller/bank knows what you are up to, you may lose not only the money you paid for the appraisal ($350-500), but your deposit as well.

In the end, understand that appraisals are subjective…and that the appraiser is genuinely trying to make the sale happen while protecting the interests of the new lending bank.  Most of the time, everyone gets on the same page…but on those times where everyone just can’t see eye-to-eye, then at least now you know what some of the remedy’s may be.  There are exceptions in almost every case, and your transaction may  be different, but the above should get you pointed in the right direction.

Take care, and as always, let us know if there is any issue you would like to see addressed in our blog.