What’s Your Home Worth?

How much is a home worth? That’s the crucial question asked by home buyers and their lenders in a sales transaction. It’s up to a professional real estate appraiser to analyze the property and market data to come up with the market value, which can dramatically change the outcome of a deal. What exactly does an appraiser do? And why does the appraisal hold such importance?

Home value. The mortgage company is loaning money to the buyer based on a loan-to-value (LTV) ratio. The loan-to-value ratio is calculated by using either the appraised value of the home or the actual sale price, whichever is lower. In a conventional 30-year fixed-rate mortgage, a loan-to-value ratio of 80 percent means that the loan will be 80 percent of either the appraised value or the sales price, and the buyer will be responsible for the remaining 20 percent in a down payment at closing. A mortgage company wants an accurate value of the house since it will serve as collateral if the buyer defaults.

To minimize risk, a mortgage company wants the buyer to invest as much as possible. Although some lenders will loan up to 90 percent of a home’s value, most prefer 80 percent. If a buyer puts 20 percent down on the property, the mortgage company is satisfied that the buyer has enough stake in the home to lower the default risk. If the buyer puts less than 20 percent down, the mortgage company will take out an insurance policy known as Private Mortgage Insurance (PMI) protecting it from default, requiring the buyer to pay the monthly premiums.

Appraiser or inspector? Home buyers often confuse the inspection process with the appraisal. Both professionals are trained and licensed by the state in which they do business. The inspector conducts a thorough review of the home from top to bottom to find problems, defects and needed repairs. The appraiser establishes the house’s market value by walking and measuring the property inside and out, recording features. Although appraisers will make note (and subtract value) if something is obviously in bad shape like a damaged roof, they doesn’t inspect the roof. Appraisers are normally compensated by the buyer with a flat fee based on the time and effort required to complete the analysis.

What does the appraiser look for? Appraisers walk room by room looking at size and characteristics. They count value toward features built into the house. For example, new kitchen counters and cabinets will count, a drop-in range and oven will not. A room must have a closet to count as a bedroom, otherwise it is considered a living area. The appraiser will only count square footage that is above ground level so a finished basement won’t count, although it will contribute some value. The outside materials, brick and siding, figure into value. Appraisers take photographs of each room and the exterior. Appraisers also will take photographs of the neighborhood to show how the home looks by comparison. Finally, appraisers will pull “comps,”or sales reports of homes in the neighborhood that are comparable to the house being evaluated, to finish establishing market value.

The appraiser will submit his professional report to the mortgage company and to the buyer. The Uniform Residential Appraisal Report (URAR) is a standard federal form used for residential appraisals. If the value comes in higher than the sales price, the buyer has done well, getting a deal for the home. If the value comes in under the contract price, the buyer may be paying too much. An 80 percent loan-to-value ratio on a $200,000 sale means a mortgage of $160,000. But if the house appraises at $190,000, then the lender will only extend credit for $152,000. Under this scenario, the buyer would have to put down $8,000 more, or the seller would have to come down by that amount in price. A third option would be some sort of price compromise.

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