Many people trying to purchase residential real estate assume that getting a seller to accept an offer is the last major obstacle before closing. However, a surprising number of issues can arise between when the seller accepts an offer and the buyer finally signs the paperwork.
The inspection could uncover surprising latent defects that cost thousands to repair. The buyer might lose their job, preventing them from securing a mortgage. Issues with the appraisal could also delay the closing or result in a canceled transaction. Sometimes, appraisal reports come back far lower than buyers and sellers anticipate, which can quickly complicate the closing process.
Appraisals help protect the lender
Mortgage companies require inspections and appraisals to limit their financial exposure. Inspections help validate that the property is in an appropriate and habitable condition. Appraisals help validate that the amount of the mortgage lender provides to finance the transaction directly relates to the value of the property.
Without an appraisal, lenders might finance a transaction that ultimately results in major losses for the lender. If the buyer defaults, the lender must foreclose and then sell the property to recoup the principal balance of the mortgage. When the appraisal comes in lower than the purchase price, the lender is at risk of being unable to recover the principal balance in a foreclosure-sale scenario.
Appraisal gaps often lead to lenders limiting the amount of financing provided based on the appraised value of the property. Even if the buyer qualifies for a larger mortgage, the appraised value may limit the amount the lender offers.
How can buyers avoid appraisal gap complications?
Carefully tracking the local market can help buyers avoid scenarios where they offer an unreasonably high price for a property. Buyers can also protect themselves by setting aside funds that they can use to cover a gap between the appraised value and the purchase price of the home.
In some cases, they may be able to renegotiate with the seller to reduce the price based on the appraisal. Other times, canceling the closing might be necessary. Buyers often need to protect themselves in advance by adding contingencies to their offers in case an appraisal gap arises.
Understanding the factors that can complicate residential real estate closings can help people limit their financial and legal exposure. Low appraisals are a common issue when home values fluctuate, but people can plan to avoid the worst possible fallout of an appraisal gap.