What Will Fail a Conventional Loan Appraisal?

A conventional loan appraisal is a fundamental component in home buying and refinancing. Its primary function is to provide an independent assessment of a property’s market value, ensuring it aligns with the proposed loan amount. This evaluation helps protect both the lender and the borrower by confirming the property offers sufficient collateral for the loan. The appraisal establishes whether the property meets the specific standards required for conventional financing.

The Conventional Loan Appraisal Process

A conventional loan appraisal involves a professional appraiser’s objective assessment of a property to determine its fair market value. This evaluation is performed for the lender to ensure the property acts as adequate collateral for the mortgage loan. The appraiser provides an unbiased estimate, protecting the financial interests of all parties.

During the appraisal, the appraiser conducts a thorough inspection of the property’s interior and exterior, noting its overall condition, features, and any improvements. They consider various factors, including the property’s size, age, number of rooms, amenities, and physical state. The appraiser also analyzes local market conditions and the property’s location, including proximity to amenities, schools, and transportation.

The appraisal methodology involves comparing the subject property to recently sold, similar properties, known as comparables or “comps,” within the same geographic area. The appraiser adjusts for differences between the subject property and the comparables, such as variations in square footage, lot size, age, and features, to arrive at an informed valuation. This approach ensures the final appraised value reflects the property’s market worth and adherence to conventional lending standards.

Key Property Deficiencies That Trigger Appraisal Failure

Several property deficiencies can significantly impact a conventional loan appraisal, potentially causing it to fail or result in a “subject to” condition requiring repairs. These issues often relate to the property’s structural integrity, safety, habitability, or alignment with market value expectations.

Structural and Foundation Problems

Significant cracks in the foundation, evidence of shifting, or noticeable bowing walls indicate instability. Water damage in basements, especially if it points to ongoing leaks or compromised structural elements, also raises concerns. Severe roof damage, such as missing shingles, significant sagging, or evidence of widespread leaks, impacts the property’s long-term integrity and habitability.

Safety Hazards

Exposed electrical wiring poses a fire risk. Non-functional or unsafe plumbing, including significant leaks, inadequate water pressure, or issues with sewage disposal, can render a property uninhabitable. The absence of handrails on staircases, particularly for stairs with more than a few risers, is a common deficiency. Any severe fire hazards, such as non-vented heating systems or accumulation of combustible materials, are also critical.

Health Hazards

Extensive mold growth, especially if it covers large areas or indicates persistent moisture problems, can affect indoor air quality and habitability. Active pest infestations, particularly from termites, rodents, or other pests that can cause structural damage or spread disease, are problematic. Unmitigated lead paint or asbestos can become concerns if they severely impact habitability or pose an immediate health risk, often requiring professional remediation plans.

Major Deferred Maintenance

Major deferred maintenance indicates neglect that can undermine a property’s value and habitability. Large holes in walls or ceilings suggest a lack of basic upkeep. Extensive water damage from unrepaired leaks can lead to structural decay and mold growth. Non-functional essential systems, such as HVAC units, water heaters, or electrical panels, render a home unlivable until repaired or replaced. Appraisers note such deficiencies, often requiring them to be fixed before the loan can close.

Serious Code Violations

Serious code violations affect a property’s safety, habitability, or structural soundness. These are violations of building codes that ensure the basic integrity and safety of a dwelling. Examples include unpermitted additions that compromise structural integrity or electrical systems not up to current safety standards. Appraisers are typically not code inspectors, but they note obvious violations that impact the property’s overall condition and marketability.

Lack of Essential Utilities or Systems

A property lacking essential utilities or systems will likely fail an appraisal for conventional financing. This includes properties without functional water service (well or municipal) or non-functional septic or sewer systems. A lack of operational heating or electrical systems also makes a property ineligible for conventional loans, as these are fundamental for a habitable living space. Such properties are often deemed uninhabitable until these systems are restored.

Market Value Discrepancies

Market value discrepancies can cause an appraisal to fail to support the loan, even without physical deficiencies. If the appraiser’s valuation is significantly lower than the agreed-upon purchase price, the property does not offer sufficient collateral for the loan amount. This often occurs when the property’s condition, features, or location do not align with values supported by recent sales of comparable properties, leading to a gap between the contract price and the appraised value.

Navigating Post-Appraisal Issues

When an appraisal identifies issues or values a property below the purchase price, several options become available to the involved parties. The process often involves direct communication and negotiation between the buyer, seller, and lender.

If the appraiser notes specific deficiencies, the loan is often issued with “subject to” conditions. This means loan approval is contingent upon the completion of specified repairs or improvements. Common repairs include fixing a leaky roof, addressing exposed wiring, or ensuring a functional heating system. The seller typically undertakes these repairs, but sometimes the buyer may agree, often with an escrow holdback arrangement.

Once required repairs are completed, a re-inspection by the appraiser is usually necessary to confirm all noted deficiencies have been adequately resolved. The re-inspection typically incurs an additional fee, ranging from $100 to $250, paid by the buyer or seller. This follow-up ensures the property meets conventional loan standards and the lender’s collateral requirements, allowing the loan process to move forward.

A different scenario arises when the appraised value is lower than the agreed-upon purchase price, even without major property deficiencies. This means the lender will only approve a loan amount based on the lower appraised value, impacting the loan-to-value ratio. For instance, if the purchase price is $300,000 but the appraisal is $280,000, the lender will base the loan on $280,000.

Several options are available when an appraisal yields a low valuation. The buyer can bring more cash to the closing table to cover the difference. Alternatively, the buyer and seller can negotiate a new, lower purchase price that aligns with the appraised value. If neither party can agree, the deal may fall through, particularly if the purchase agreement includes an appraisal contingency.