What is a Home Inspection?
Earlier last week, I talked to Don Madisen about the home appraisal process and what happens when it goes wrong. Don is a Senior Loan Officer and Sales Manager with PHH Mortgage. PHH Mortgage is the fifth largest originator of retail residential mortgages, the seventh largest originator overall, and the ninth largest mortgage servicer in the United States. In 2015, PHH closed approximately $41 billion in mortgage financing and maintained an average servicing portfolio of approximately 1.1 million loans.
Here is a transcript of our discussion, edited for length and clarity.
“What is a home appraisal and how does it work?”
A home appraisal occurs when a licensed appraiser assigns a value to a property. Appraisals are long and involved and require photos, research, and analysis. Some appraisal reports can stretch to 30+ pages! Home appraisals determine if a buyer is over-paying for a home compared to similar homes. This protects the buyer and the lender providing financing on the home.
Appraisers generally use the “Sales Comparison Method.” This is when a home appraiser compares your home (“subject property”) to other homes with similar physical attributes in the immediate vicinity. “Immediate vicinity” varies. In dense cities like Milwaukee, Racine or Brookfield, the immediate vicinity is within 0.25 miles — usually not more than a few city blocks. In rural areas, the immediate vicinity could be several miles.
Appraisers look at things like the number of bedrooms and bathrooms, the home’s age, quality of finishes, and square footage. They also consider the “appeal” of a home based on school districts, proximity to traffic and shopping, etc. Then the appraiser searches public records for home descriptions, sales data, and other available information for each comparable home.
Here’s an example: The subject property is a 5 bedroom, 3 bathroom, 3 car garage home with a finished basement to appraise. The appraiser sees that the home across the street has 4 bedrooms, 2.5 bathrooms, a 2.5 car garage, has an unfinished basement, but is identical in every other way. It recently sold for $575,000. The appraiser may value the subject property at $625,000.
“Are certain comparable sales more important than others?”
Comparable homes sold in the last 90 days are very important in the Sales Comparison approach. Homes sold over 6 months are mostly irrelevant. Homes sold more than 12 months prior are never considered as part of an appraisal.
“How will the appraisal’s value affect the borrower?”
Borrowers can get different mortgage rates and options. Sometimes they may even get to submit less documentation as part of the mortgage approval process! However, home appraisals don’t always come in “at-value”, which means that the appraisal comes in lower than you planned. That’s when bad things can happen.
“What happens when your home appraises below its purchase price?”
This situation will affect your mortgage, and can affect your contract, too. Mortgage lenders use home appraisal value to find the “value” part of your mortgage’s Loan-to-Value (LTV) ratio. This will raise your down payment amount or the LTV.
There are five potential outcomes:
1. Buyer and seller renegotiate a new, lower home sale price. (Mike’s note: This nearly always happens as part of the failure of the Offer’s Appraisal Contingency.)
2. The Buyer takes the loan as-is and may take a higher interest rate and/or PMI (as long as they still have minimum down payment).
3. The Buyer increases their down payment to meet new LTV and down payment minimums.
4. The Buyer chooses none of the above and cancels their home purchase contract.
5. The Buyer reviews the appraisal and files for a “reconsideration of value” with their lender.
If the buyer files for a reconsideration, the lender will take comparables from the Buyer’s and Seller’s (listing) agent and requests the appraiser to review and justify their report. It’s important to understand that only 7% of all requests for reconsideration of value result in a higher valuation.
Appraisal contingencies may also be used to renegotiate or exit contracts after an appraiser identifies required repairs, such as chipped paint or cracked windows.
If you have questions about the mortgage process, including the appraisal, Don is your man! Click here to reach Don Madison. He and PHH are ready to help you into your next home or to refinance your existing one.
If you need help selling your home or finding a new one, please let me know! I’ll be happy to work with you and Don to make your move a reality!