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Appraisals…It’s Not About Value, it’s About the New Loan Amount

Westcoe Realtors, Riverside California…On February 7 of this year, Westcoe posted a blog about how buyers may need to consider paying over the appraisal amount if they want to purchase a home in this highly competitive real estate market.  Please go back a read it, because that blog, coupled with what we will discuss today, really needs to be absorbed if you are a buyer trying to purchase a home.

So…today, we need to add the following caveat to what is happening in our market.

As a buyer, you MUST come to grips that the appraisal price only sets the maximum loan amount your new lender will let you borrow…IT IS NOT AN INDICATION OF THE VALUE OF THE HOME YOU ARE TRYING TO PURCHASE.

Right now, appraisers are handcuffed by all the new rules and regulations they must comply with in order to issue an appraisal value.  We won’t bore you with them, but suffice it to say that even the most experienced and liberal appraisers simply cannot keep up with the massive tide of rising prices.  They are not allowed to give credit for an increasing price market, but must instead only use past closings as an indication of current value.

As an example, suppose your neighbor just closed escrow on his home (which for our example here is identical to yours) for $300,000.  Now, about 1 month later, you put your home up for sale at $305,000, and you get 6 offers (that is not unusual at all), with the final acceptance from one of the buyers at $310,000.  Great…congratulations.

However, when the buyers new lender orders an appraisal, the appraiser will look at your neighbors just closed indentical property, and in all probability, will give yours the same $300,000 appraised value.  It doesn’t matter that you had 6 offers, it doesn’t matter that your buyer will pay $310,000…they don’t care.  The appraisers guidelines dictate that they can give no weight to the amount of offers, but only to the most recent closed comparable sales…hence your value will be the same $300,000 your neighbor got.

So what happens?  In this market, your buyer will probably make up the difference in the appraisal price and the sales price with cash, and you will more than likely close at your $310,000 price…and that will now be the new comparable sale for the next seller down the street who wants to sell a month from now.  Our point here is that the appraisal value did not represent the true value of the home, but is used only as an indicator of what the bank will lend to the new buyer.

To complete our example above, if the buyer was putting 10% down on the $310,000 purchase price, then they had $31,000 cash, and were looking for a loan of 90%…which would be  $279,000.  However, with the appraised value only being $300,000, then the lender will only lend 90% of $300,000 (which would be $270,000), which means the buyer will now need $40,000 in cash instead of the $31,000 they planned on….bummer, but such is life in the real estate world these days.

The bottom line here is that while this is no fun for a buyer, there is absolutely nothing you can do about it, so you might as well accept that this is becoming the only way to buy a home in a real estate market that is this hot.  Once the market cools off, and the appraisers can catch-up to the values, then this will change…but let’s be very clear here…that cooling off is at least 2-3 years away.

Yes, you could get lucky and find a house where the appraised value is the same as the sales price, but you can’t count on that…especially if you are trying to purchase a home below approximately $400,000.  In this range, you are really competing with so many other buyers that one of them is going to have the extra cash to pay above the appraisal.  Sorry…we would love to tell all buyers that this was not the case, but we cannot.

So…hang tough, and we know it’s rough, but for now, our sales prices are truely determined by what a willing buyer and willing seller are able to agree upon…and the bank is simply along for the ride.

Take care, and as always, thanks for reading.

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