The below text is from an article written by Janet Wickell at thebalance.com.
BY JANET WICKELL - Updated February 02, 2017
"Appraisals are an important part of the homebuying process. A real estate appraisal establishes a property's market value – the likely sales price it would bring if offered in an open and competitive real estate market. Lenders require appraisals when buyers use their new homes as security for their mortgages. An appraisal provides the lender with assurance that the property will sell for at least the amount of money it is lending.
Don't confuse a comparative market analysis, or CMA, with an appraisal. A CMA is a sales report based on data entered into the multiple listing service, or MLS. Real estate agents use CMAs to help their clients determine realistic asking and offering prices. Appraisals are detailed reports compiled by licensed appraisers. An appraisal is the only valuation report a lender considers when deciding whether to lend the money.
An appraisal is also not the same thing as a home inspection. Home inspectors test appliances and outlets, check the plumbing and confirm that a home's heating and cooling system is working. Such information is helpful for the buyer to know before moving in. An appraiser, however, is only concerned with valuating a home.
About Appraisers and Appraisals
- Appraisers are licensed by states after completing licensing coursework and internship hours.
- The appraiser must be an objective third party, someone who has no financial or other connection to any person involved in the transaction.
- The property being appraised is called the subject property.
- In some cases, the buyer pays for the appraisal at the time of loan application. Other times, the appraisal fee is added to the settlement statement and paid at the closing table.
What You'll See on a Residential Appraisal Report
Appraisals are very detailed reports based on an appraiser's on-site evaluation of a property as well as an evaluation of sales data.
Here are a few things they include:
- Details about the subject property, along with side-by-side comparisons of similar properties.
- An evaluation of the overall real estate market in the area.
- Statements about issues the appraiser feels are harmful to the property's value, such as poor access to the property.
- Notations about seriously flawed characteristics, such as a crumbling foundation.
- An estimate of the average sales time for the property.
- The type of area in which the home is located, for example, a development or stand alone acreage.
Residential Appraisal Methods
There are two common appraisal methods used for residential properties:
Sales comparison approach
The appraiser estimates a subject property's market value by comparing it to similar properties that have sold in the area. The properties used are called comparables. No two properties are exactly alike, so the appraiser must compare similar properties to the subject property, making adjustments so that their features are in-line with the subject property. The result is a figure that shows the price at which each comparable property would have sold for if it had the same components as the subject property.
The cost approach is most useful for new properties, where the costs to build are known.
The appraiser estimates how much it would cost to replace the structure if it were destroyed.
So What Does the Appraisal Mean to You?
A homebuyer's initial mortgage approval is accomplished early on, but final approval usually hinges on a satisfactory appraisal. The lender wants to be sure its investment is covered in case the buyer default on the loan. If the property appraises lower than the sales price, the loan might be declined, but that isn't the only hurdle it must pass. Other red flags noted on appraisals include:
- Estimated time on the market is longer than the area average.
- Entry to the property is from a private, shared road. The lender might want to see a road maintenance agreement signed by everyone who uses the road, verifying that maintenance is shared by all parties.
These are just a few examples of appraisal findings that could stall a home purchase.
Lenders study appraisals carefully before determining whether a property qualifies as security for a home loan.
Don't panic if the appraisal comes in low because there are steps you can take to make the deal work. If the appraisal uncovers other problems, remember that most problems are correctable. Keep your cool and work through issues one step at a time."