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How to Handle a Low Appraisal: An Interview with Denis DeSaix of Metrocal Appraisal

By Denis DeSaix, SRA

Can you quickly walk our viewers through the appraisal process?

Most consumers need an appraisal when they are obtaining a mortgage loan, so I'll focus my answers on how the appraisal process works for a typical home loan.

When a lender orders an appraisal, it wants to know two important things: (a) "Does the property meet our minimum requirements and if not, why not?" and (b) "What is the appraiser's opinion of market value of the property?" Consequently, an appraisal is designed to answer those two questions. Meeting the minimum property requirements include such things as overall condition, structural soundness and integrity, legal permissibility and compliance with zoning laws (where applicable), overall conformity to the neighborhood, and the property's ability to be sold (it's marketability). Homes that have serious adverse condition issues will likely not qualify for conventional, FHA, or VA loans unless those issues are corrected. Some lenders will not make a loan on a property that has an illegal addition. Most lenders will not loan on a property that has an illegal use (a 3-unit property when the zoning only allows 1-unit). Therefore, much of the appraisal inspection and appraisal report concerns itself with reporting the physical and legal characteristics of a property. Although appraisers are not required to be home inspectors or expected to have the same knowledge as a licensed contractor, appraisers are trained to report what is "readily observable" during a typical walk-around inspection. An appraiser is required to report conditions based on the evidence observed. If a component is clearly broken and needs repair (a roof, for example), the appraiser is required to disclose that condition in the report. If it is uncertain that an item needs repair (the roof looks old, but it may not need immediate replacement) then the lender might require the appraiser to assume the roof is functional and advise the lender to obtain an inspection report from a qualified inspector/roofer to verify the condition of the roof. Some lenders may require all significant issues to be repaired prior to making a loan; others will ask the appraiser to provide a value of the property as-is, with the known condition considered in the valuation.
The property's condition and its ability to meet a lender's minimum property requirements is the first item a lender considers when it reviews the appraisal report.

The second question the appraisal addresses is the value of the property. For a residential mortgage loan, the primary valuation method used is the sales comparison approach (also called the market approach). The process is relatively straightforward: The appraiser finds sold and sometimes listed or pending-sale properties (called "comparables") that a likely buyer of the subject would consider as substitutes for the subject, compares those properties to the subject, and adjusts for those differences that have a meaningful impact on value. Differences of size, condition, location, and view are some of the common elements adjusted for in an appraisal report. If a comparable property is superior to the subject, it adjusts downward; if it is inferior, it adjusts upward. Not all differences warrant adjustments.
Some lenders require an additional valuation methodology known as the cost approach. The cost approach attempts to value the subject property based on the cost to replace the improvement, the value of the land, and then considers the age (how much has the improvement depreciated in value since it was built) along with other factors that affect the property, to provide an indication of value. In some markets and in some situations the cost approach can be a reliable indicator of value. However, in many cases, the cost approach is less reliable than the sales comparison approach. For the typical residential mortgage, lenders require the appraisal value to be fully supported by the sales comparison approach.

What most consumers experience during their appraisal is this: An appraiser will call and set the appointment and may interview the borrower about the property at that time. On the date of the inspection, the appraiser will walk around the exterior of the home, taking measurements of the house and other buildings, and taking exterior photos. The appraisers will also walk-through the interior of the house, draw a floor plan of the home, and take photos of the interior. Current lending guidelines require photos of the kitchen, all bathrooms, a representative sample of the interior, and photos of any significant items (upgraded features or items that need repairs). Some lenders have additional requirements that all rooms be photographed. The inspection process might take 20-45 minutes. Many consumers assume that once the appraiser leaves, the bulk of the appraisal is finished; actually, the opposite is true. The majority of the work is done prior to and after the inspection.
The appraiser then reviews the market data, selects the comparables for the analysis, drives by and photographs/observes the comparables, returns to his or her office, and begins the analysis. The data collected in the inspection is then used to complete the first part of the appraisal (does the subject meet the minimum property standards for the loan). Then, the market data is analyzed, final comparables are selected for inclusion into the report, their differences vs. the subject are evaluated and, where warranted, adjusted, and an indication of value is arrived at. The appraiser then evaluates the overall quality of the data, considers each comparables' adjusted sale price, and then reconciles the data to a single point-value. That point value is the appraiser's opinion of market value for the subject as-of a specific date (for mortgage loans, the date is usually the day of the inspection). The report is then augmented with a number of exhibits and supplemental analyses as well as the appraiser's signed certification, and sent off to the lender.

What is a "low appraisal" and how does it differ per house/neighborhood etc.?

The term "low appraisal" means different things to different stakeholders. To a borrower that wants to qualify for a loan, it may mean the appraised value is lower than needed to meet the lender's requirement. To a seller, it may mean lower than the purchase contract. To a loan broker, it may mean lower than necessary to qualify for a certain loan program. To an appraiser, it means not credible. In other words, to an appraiser, a "low appraisal" would be one that is not supported by the market data. Appraisers are required to be independent, unbiased, and objective when we value a home, and we certify in every appraisal report that the results (our value opinion) are not based on some pre-determined value or favorable outcome. Therefore, appraisers solve the valuation problem without any motivation to achieve a certain result; the only motivation we have is to ensure our opinion is credible and supported in the market. To an appraiser, an opinion of value that is "high" (more than what market data supports) is equally unacceptable as one that is "low" (less than what the market data supports).

Why would someone receive a lower appraised value than assumed?

There could be three reasons:

  1. An unrealistic expectation of what the house is worth based on the market data that is available.
  2. The appraised value isn't that much different from the expectation, but it is lower. Real estate, and especially residential real estate, is an imperfect market (witness the differences in listing prices vs. closing prices; if the market were perfect, there would be no differences). The appraisal value is an opinion; a home that is valued at $500,000 by an appraiser could be valued $520,000 by one of the stakeholders; that difference (3.85%) is probably very reasonable given the market's imperfections.
  3. The appraisal used inferior quality data, did not use correct methodology, made a math or factual error, or any combination thereof.

Nothing can be done for the first reason other than the stakeholder or consumer resetting his or her valuation expectations.
The second reason might be the most frustrating for a consumer. Effectively, both values ($500k and $520k) are reasonable, but the appraiser selected the lower as being the most credible.
The third reason is where the stakeholder has recourse using the process known as a "reconsideration".

What advice do you have for someone who needs to improve their appraised value?

There are things a consumer can do prior to the appraisal inspection and after the report is completed that can assist the appraiser and help improve the overall quality of the report and, ultimately, the credibility of the results.

Prior to the inspection?.

Obviously, homes that are well maintained with no repairs or needed maintenance have a superior appeal than those that are not regularly maintained and have identifiable repair items. Ensuring that the home is well maintained and that no items are in need of repair improves the appeal of the home. However, I wouldn't recommend that a consumer do a make-over of their house just for an appraisal. Simple things like cleaning up the home and removing any clutter, having the grass cut and yard maintained, and then fixing any simple and obvious items (broken exterior light) are not excessive, costly, and improve the appeal of any house.

Make a list of any upgrades or replacements. Appraisers are required to report significant updates for kitchen and baths that occurred within the last 15-years. Don't be shy about sharing any upgrades or modernizations to the home. Don't think it must be a big ticket item (a $20k kitchen upgrade); putting in ceiling fans or instant hot water at the tap are energy-efficient upgrades that can be noted. Make a list and have it ready for the appraiser at the inspection. I've never seen a list I thought was too long.

If there are recent sales in your neighborhood that you know about, share it with the appraiser. Walk around your neighborhood and see if there are any homes for sale; save the marketing flyers that you receive and give them to the appraiser. Keep in mind that not all sales are "comparables" and you may have some sale information that is not relevant for your valuation analysis. The appraiser will determine if the data is appropriate or not.

When you receive the appraisal report?

When an appraiser completes an appraisal, it goes to the lender or the lender's agent (called an AMC, or Appraisal Management Company) and a quality control evaluation is completed. If there were obvious math errors, they are identified and corrected in the QC process. In addition, it is common for lenders to have alternative valuation tools that provided a value estimate of the subject property; if there is a significant difference between the estimate and the appraised value, the report is usually sent to a licensed review appraiser who will analyze the report and many times verify the information. Sometimes, the review appraiser concludes a different value and the original appraiser is asked to reconsider its value. Finally, for all purchases, if the appraised value is lower than the purchase price, someone will look at the appraisal to ensure it is credible. While it is a fact that some homes are in contract for a price that is higher than market value, most homes do sell at or near market value. If there is a difference between the appraised value and the purchase price, that report is reviewed in detail to ensure the appraised value is credible and market supported.

All of the above occurs behind the scenes without the knowledge of the borrower. Most obvious mistakes are identified and corrected in this process. Once the lender is satisfied that the report meets its quality and credibility threshold, the underwriter then uses it as part of the loan decision-making process.

A consumer is entitled to a copy of the appraisal of their home; by law they must receive a copy of the appraisal at least 3-days prior to the closing unless they sign a waiver that allows the lender to provide the appraisal at or after the closing. In practice, if the property doesn't meet the minimum condition/property standards or the value is insufficient for the loan program, the consumer is going to know about it and the loan won't close. In this case, the consumer will be given a copy of the appraisal and this is the opportunity for the consumer to look at the report and provide the lender with information that might warrant a reconsideration by the original appraiser. Briefly, here is how it works and how it can best work for a consumer:

  • A reconsideration is the process by which an appraiser is given new information to evaluate and consider once an appraisal report has been completed. The information may result in the appraiser amending the appraisal and can result in a value change.
  • Appraisal reports can contain factual errors. Some are insignificant (hardwood floors are listed in the report when technically it is a wood laminate floor; windows are indicated as being double-hung when they are sliders). Some errors can be significant; an appraisal report may indicate the house is 2,500sf when it is actually 2,900sf. It is common for some appraisers to measure a home to the nearest half- or even full-foot; some variance in reported size vs. measured house size can be expected. Small differences are not significant. Larger differences could make a difference. If significant factual errors are discovered, the consumer should make a list of these items and state what they believe the error to be.
  • The report might have used dissimilar sales to compare to the subject, or the report used older sales when newer sales that are more relevant exist. However, comparable selection is based on one important filter: A comparable should be a house that the typical buyer of the subject would consider as a substitute for the subject house. So, if the subject house is 2,000sf, a typical buyer might consider substitutes in the 1,800 to 2,350sf range. The typical buyer would probably not consider a home in the 3,000sf range. Also, neighborhood and competitive market is important (location, location, location). A 2,000sf house in a neighborhood where the values are $800,000 is not a substitute for a 2,000sf house in a neighborhood where the values are $500,000; the homes may be physically identical, but the neighborhood and markets are not. An average consumer may have difficulty in finding appropriate comparables, so getting help from a real estate professional might be necessary. On the other hand, many consumers are very knowledgeable about the sales occurring in their neighborhoods. Sales information can come from marketing flyers and on-line services like Trulia or Zillow. Regardless of how the alternative sales are gathered, they consumer must ask themselves this question: Are these sales I'm asking the appraiser to consider really better (more similar, closer, more recent, in the same neighborhood, etc.) than the ones in the appraisal report? A consumer has a large stake in the game, and it isn't easy for the owner of the home to be impartial when looking for substitutes. Do not use "price" as the search criteria for substitutes. Base the search on physical and market similarities. If the sales found are more similar than the ones used in the original report, then there is a strong argument for reconsideration.
  • Once the consumer has made a list of significant factual errors and (if appropriate) has found alternative properties that warrant evaluation, then the consumer should contact the lender and request a reconsideration. My advice in making the request is to be as factual and non-emotional as possible. Identify the factual errors in the report and then submit the alternative sales and a reason why they should be considered ("this property is 1-block from my house, is about the same size, and sold 30-days ago.").
  • The lender will then take the request and process it. Some lenders review the request themselves to see if they think there is sufficient evidence for a reconsideration; if so, then they'll pass it on to the appraiser. Others will simply forward it directly to the appraiser.
  • The appraiser will receive the information and evaluate it. If the appraiser determines that there were errors or that data provided is superior to what was originally used, then that appraiser should complete a reconsideration (amend the report where warranted). The reconsideration may or may not result in a change of value. It makes sense if significant items that affect value are reconsidered, a change in value will occur.
    However, if the appraiser determines that the errors are not enough to affect the value or that the alternative sale data is not better than the original comparables analyzed, the appraiser can simply state so and no change will occur. If the request for reconsideration is persuasive, the appraiser should be willing to consider it and determine if any changes should be made to the appraisal.

    Is it beneficial to enlist another appraiser to see if they appraise your home's value higher?

    It depends. First, for a mortgage finance appraisal, the lender is required to be the one who orders the appraisal used for the loan. A borrower is not allowed to order an appraisal for their own loan. A lender may give the borrower the opportunity to request another appraisal, but the lender selects the appraiser and many times the borrower will have to pay for it. In some cases, it may make sense for the consumer to order an appraisal if they are trying to persuade the lender that a new appraisal is needed, but those cases are rare. Alternatively, the borrower could obtain an appraisal review of the original appraisal and use that as an argument with the lender that it should obtain a new appraisal. In most cases, obtaining another appraisal to determine if there is a different value vs. the first appraisal isn't that helpful for the consumer. Regardless of what the consumer-ordered appraisal concludes, the loan will have to be based on an appraisal completed by an appraiser the lender selects.

    What is the best way for people to reach you and or your company?

    We can be reached at 925-875-0525. Our web address is www.metrocalappraisal.com, and any inquiries can be emailed to us at April@metrocalappraisal.com.

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    8/11/2014

    Mike B

    Denis is a great appraiser and his advice is solid. I agree with everything here but would add one thing. On purchases, ask the realtor to meet with the appraiser at the site and provide the appraiser

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    About The Author

    Principal and Chief Appraiser at Metrocal Appraisal with 20 years of appraisal...

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