If you purchase a house with a loan, the lender requires an appraiser to assess the property and make sure that the market value is there. In other words, if you’re buying a house for $500,000 the bank wants to make sure the house isn’t worth only $200,000 and that they’re lending you $300,000 of extra money. Sounds legitimate.
The problem arises when the discussion of market value comes into play. Buyer writes an offer. Seller counters. Buyer agrees. Buyer and Seller have to come to an agreement about what the house is worth. To many people, that is the definition of value: “what someone is willing to pay”. The trouble is that that isn’t necessarily market value. If the same floor plan just sold 3 weeks ago as the property-in-question for $300,000, and today Buyer and Seller agree to purchase the same floor plan for $310,000 in a declining market, the market value may come in less than $300,000, depending on a variety of factors (interior upgrades, lot size, etc). Market value isn’t an exact science and appraisers are licensed in using a bunch of determining factors to calculate value (i.e. a larger house that’s a little bit older than the property-in-question and has a pool sold 0.25 miles away 3 weeks ago. How does that affect the market value of the property-in-question?). Appraisers use a variety of tools in order to determine how each item affects the value as well as take into account trends within the local and national market. The main thing to remember is that the appraiser works for the bank. The appraiser’s job is to protect the bank’s interest and make sure there isn’t any loan fraud or other potentially illegal activity going on.
The lending pendulum has swung from the liberal times of the mid 2000′s (when people making $10/hour could afford $500,000 houses) to the very conservative. Appraisals have come along with that. Used to be that lenders and appraisers had relationships and Dave the Lender could call up Tony the Appraiser and have him appraise the property. Of course, Tony appreciated the business from Dave and therefore was more inclined to make things work and have the property appraise at value. Now, appraisals go into a hat and a random appraiser is selected. Seems better but the problem sometimes is that you get an appraiser who potentially isn’t familiar with the specific neighborhood.
The second biggest problem with appraisals is that the appraiser is given the contract. From the sense of putting deals together it makes sense but for determining market value it doesn’t make sense. I’ll tell you a quick story regarding a recent house I sold at 3120 Skyline Drive in Oceanside. The buyer wrote an offer at $800,000 and the seller countered at $825,000. The buyer agreed. We went into escrow at $825,000. However, the appraiser received the contracts from the lender (remember, the appraiser works for the lender) but only got the offer at $800,000 without the counter. He appraised the property at $800,000 (surprise, surprise). He thought he was making the property appraise at value. Actually we were undervalued. My client (the seller) brought up a valid argument. If the appraiser is only going off the contract, what’s the point?! It’s a valid argument. The appraiser’s job is to determine the market value of the property. At the same time, he doesn’t want to be the one to screw up everyone’s deal (FYI — appraisers get about $250-$300 take home per appraisal. Lender fees are about 1% of the purchase price. Realtor fees are about 3% of the purchase price per side. Etc, etc). You can see the dilemma.
Appraisers have one of the toughest jobs within real estate. Often there are qualified buyers who are agreeing with motivated sellers to buy a house at a specific price and the property falls through because it doesn’t appraise. At the same time, difficult properties to appraise (i.e. property different than surrounding properties) draw increased scrutiny from the appraiser’s boss (aka The Underwriter).
If you run into trouble with appraisals, there are ways to combat them. Give me a call or drop me an email if you run into trouble and need some help.