A seller wants to sell their house, and a buyer wants to buy a house. (How do you like my logic and deductive reasoning?) But how do you know how much you should sell your house for? And how do you know what you should buy a house for?
You can get a quick broker price opinion which might give you a rough idea and/or you can go to Zillow, which has certain algorithms that may give you an idea, but an idea is all you will get. Lender appraisals are really what counts when it comes to getting financing. An appraised value is based on using comparable sales of homes (homes similar to yours, known as “comps”), near yours, that ideally sold in the last six months. In the end, the appraised value by a certified appraiser will tell you the value that a buyer’s lender is willing to lend on. With the change in laws due to Dodd Frank, appraisals are ordered through an appraisal management company (AMC) who then sends out the order to an appraisal company (in order to create distance between the mortgage company and the appraiser). It is possible that the mortgage company has its own AMC panel, but the best they can do is to make sure that at least they are using a panel of good appraisers, but even then lenders run the appraisals through an algorithm check known as “CDA” (collateral desktop analyses) to make sure the comps used and adjustments made by the appraiser are making sense. There is also an element of subjectivity. Even though you can have different appraisers choosing the same comps, when arriving at the final value, they make different adjustments to the comps, and adjustments are subjective. Adjustments are not typically a uniform decision even though theoretically they should be, which is why independent values can vary slightly.
Let’s say the sellers’ asking price was agreed to by the buyer, and the appraisal comes in for asking price. Not much to do here unless you had an inspection and discovered some things about the house that might deter you from paying asking price. That doesn’t mean the seller will accommodate, but certainly a good start. What I want to focus on is what happens if the appraisal comes in lower than anticipated—what you should consider, as a seller and as a buyer, so that you as a buyer can still buy and you as the seller can still sell.
One important thing you should know is that a lender lends on the lower of the purchase price or appraised value. For example: If you’re buying a house for $500,000, and putting 20% down, which is $100,000, that means you are borrowing 80% of the purchase price, which is a $400,000 loan. What if the house appraises for $450 000? The lender will lend 80% of $450,000 which is $360,000, so if the seller doesn’t budge and you really want the property you now have to put down $140,000 instead of $100,000. From the lender’s perspective, you are still putting down 20%, but you now need to come up with an additional $40,000 to keep your down payment at 20% from the lender’s perspective.
If the appraisal happens to come in low, and there is a demand for that property, the seller might not negotiate with you because he might have other buyers on the side, willing to pay his price, which may force you to make a business decision. As a buyer, what are your choices?
- You can walk away (but you’ve been looking for about a year and a half, and now you’re tired, and you really like the property, yada yada yada), so what are some of the other alternatives if you want to move forward?
- If you have savings you can put more money down. If you’re lucky enough to have family who can give you money then take advantage of that, or you can borrow against your 401K, but if you don’t have those options then:
- You can take out what they call mortgage insurance, and there are at least three to four types in terms of pricing and structure, but I’ll keep it simple and boil it down to two choices: (A) LPMI, known as lender paid mortgage insurance, and (B) monthly mortgage insurance. There are advantages and disadvantages to both, but the bottom line is either of these two options can be deal savers. How? They will allow you to keep your down payment and mortgage the same as it was initially. The small catch is now you have to take mortgage insurance, which will either increase your rate or fees, or keep your rate the same but you will now have to pay monthly mortgage insurance.
You may never have intended to head in that direction, but it’s really not so bad. Restructuring using mortgage insurance products can allow you to get the house you want even though you may be paying slightly more on the mortgage. Even better, you could go back to the seller and ask them for a seller’s concession and/or contribute sometimes 1% or more of the loan amount, which will allow you to lower your rate and eliminate the monthly mortgage insurance. You can both walk away happy; you have your house at the same down payment that you started with, and the seller has most of the money that he wanted and… you both didn’t have to start all over again.
When negotiating and making a decision to move forward, keep in mind that each specific geographical location has its own market. One market can have values stagnating or going down, and another can have values going through the roof. If values are dragging or going down, a low appraisal may be a red flag, but if you get a lower-than-purchase-price appraisal in a market where values are escalating, then you may wind up getting a bargain should values continue to escalate months from the day you closed. It’s the old, as they say, “supply and demand.” (Or as my cute young one says “comply and demand.”)
By Carl Guzman
Carl Guzman, NMLS# 65291, CPA, is the founder and President of Greenback Capital Mortgage Corp., a Zillow 5-star lender. http://www.zillow.com/profile/Greenback-Capital/Reviews/?my=y He is a residential and reverse-mortgage financing expert and a deal maker with over 26 years’ industry experience. Carl and his team will help you get the best mortgage financing for your situation and his advice will save you thousands! www.greenbackcapital.com [email protected].
