What Happens When a House Appraises for Less?

A home appraisal is an independent assessment of a property’s fair market value. This valuation is fundamental for most real estate transactions, particularly when financing a home purchase. Lenders rely on the appraisal to determine the maximum loan amount, as the property acts as collateral. A low appraisal occurs when this valuation is less than the agreed-upon purchase price, complicating the transaction for both parties.

Implications for the Transaction

A low appraisal directly impacts a buyer’s ability to secure mortgage financing. Lenders typically approve a loan amount based on the lower of the purchase price or appraised value. If a property appraises for less than the contract price, the lender reduces the loan amount, creating an “appraisal gap.” For example, on a $300,000 sale with an 80% loan-to-value (LTV) ratio, a lender would typically finance $240,000; however, if the appraisal comes in at $290,000, the 80% LTV would only support a loan of $232,000.

This adjustment burdens the buyer, who must cover the difference between the reduced loan and the original price. Without additional cash, the buyer may not be able to proceed with the transaction as planned. Most purchase agreements include an appraisal contingency clause, protecting the buyer. This clause allows the buyer to renegotiate the purchase price or terminate the contract without penalty if the appraisal falls short of the agreed-upon price.

From the seller’s perspective, a low appraisal can impact their expected sale proceeds. They may face the decision to lower the price to match the appraisal or lose the buyer. This can prolong the sales process, leading to additional carrying costs. A low appraisal introduces financial uncertainty, requiring re-evaluation of terms for all parties.

Options and Actions for Parties Involved

When faced with a low appraisal, buyers and sellers have options. For buyers, one approach is to bring more cash to closing. This means the buyer covers the appraisal gap by increasing their down payment, making up the difference. While this allows the transaction to proceed, it requires additional funds and may impact their financing strategy.

Buyers can also renegotiate the purchase price with the seller. This means requesting the seller reduce the price to match the appraisal, or to a manageable point for the buyer. Negotiation success depends on market conditions, seller motivation, and appraisal gap size. If an agreement cannot be reached, and the buyer is unwilling or unable to cover the gap, they can exercise the appraisal contingency clause in their purchase agreement. This allows the buyer to terminate the contract and reclaim their earnest money deposit.

Sellers also have options when an appraisal is low. They can agree to lower the sale price to the appraised value, or split the difference with the buyer. This can salvage the deal and avoid relisting. Alternatively, a seller might choose to challenge the appraisal by requesting a Reconsideration of Value (ROV) from the lender.

Challenging an appraisal requires information gathering to support an inaccurate valuation claim. The seller or their agent should compile comparable sales (comps) the appraiser overlooked or undervalued, especially recent, local sales. Documentation of significant property improvements, like renovated kitchens or bathrooms, should also be gathered. Factual errors, like incorrect square footage or miscounted rooms, also provide grounds for a challenge.

An ROV involves submitting this information to the buyer’s lender, who forwards it to the appraisal management company or appraiser for review. Only the lender can request an ROV on behalf of the borrower. The appraiser will review the provided data and determine if a revision to the appraisal is warranted. A seller might consider offering seller financing for the appraisal gap, providing a second mortgage for the difference. This option, however, often requires the approval of the primary lender and carries complexities and risks for the seller.

Navigating the Outcome

The situation typically leads to one of two outcomes: a successful or unsuccessful resolution. A successful resolution means parties agree on a solution to the appraisal gap. This involves the buyer increasing cash, the seller reducing price, or a shared financial difference. Once new terms are agreed upon, an addendum to the purchase agreement is signed, reflecting the revised price or terms. The transaction then proceeds towards closing, with financing adjusted to align with the new, agreed-upon value.

Conversely, an unsuccessful resolution means parties cannot agree on how to address the low appraisal. The most common consequence is termination of the purchase agreement. If the buyer had an appraisal contingency, their earnest money deposit should be returned. The return of earnest money depends on strict adherence to contractual terms and deadlines, including proper notification of contract termination.

If the buyer terminates the contract without a valid contingency or fails to meet contractual obligations, they may forfeit their earnest money. After an unsuccessful resolution, the seller will likely relist the property, seeking a new buyer. The buyer will continue their home search, with a clearer understanding of market values and appraisal contingencies.