Appraisals in the Long Island MLS area. That necessary evil that inevitably comes around to screw up our real estate deals from time to time. If you are around real estate for long enough you are sure to run into appraisal troubles sooner than later. With this post I want to explore the intention behind appraisals, their short comings, and what they really mean. Understanding the nuances of appraisals will help you make the best decision for yourself should your appraisal ever come in under value, both as a buyer and a seller.
Real estate appraisals have two genuine intentions behind their use. One is to protect unsuspecting buyers or sellers from making an errant real estate transaction that can lead to financial devastation. This is especially true in the case of the “little old lady” that doesn’t know better. They can also be especially useful in rural markets where it is much harder for your common layman to put a reasonable value on property than it would be In the suburbs. This is due to less frequent sales, lots that vary from one another by many acres, and home sites being used for more than just housing. It can get complicated.
The other major reason and intent behind appraisals is that, though imperfect, it is the most efficient way banks have devised to put a value on property they are going to lend on. The banks just want to get a safe number for them to own the property at in the event that the borrower defaults and the bank has to take the property back. Understandable, from the banks perspective. However, the short comings of the modern appraisal, at least the way it is practiced in the Long Island MLS zone, should be understood before a buyer or a seller decide to drop a deal based on the appraised value.
Let’s imagine that you are buying a home in Brookville NY. You have been looking for 3 bedroom 2 bath single family homes over 2000 square feet and under $500,000 for the last 6 months and you have seen virtually every home on the market. Finally you identify the perfect home that will serve your family well and you are willing to pay a fair market price for the property.
After a spirited negotiation, assisted by a knowledgeable buyer’s agent and a good seller’s agent on the other side, you make a deal to purchase the home for $482,000. Both the buyer and the seller are very satisfied with the outcome and their agents are completely supportive of the price. Everything is going great!
You get the process under way, disclosures are exchanged, inspections are ordered, and appraisal is scheduled. Everything is going smoothly. A few days later you get the appraisal report back from your lender only to discover that the appraiser, who lives on the opposite side of the island and didn’t even know how to located Brookville without use of GPS, decided that the value of the property is actually $473,000.
In other words, Mr. Appraiser, who doesn’t know the area at all, has decided that, despite the months of research and in the trenches work you have done looking at every comparable home on the market, the home is worth less than the happy buyer, seller, and their agents agreed to. There is nothing more frustrating If you think this is an exaggerated story, thing again. I have literally seen this exact scenario happen.
The consequence for the buyer and seller is that the transaction gets put in jeopardy because now the buyer has to come up with the extra $9,000, the seller has to eat the difference and drop the price, or the buyer and seller have to negotiate a compromise. All because the appraiser decided that the transaction had been overvalued by 1.9%. That is what I call absurd.
Really all an appraisal means is that it is one man or woman’s opinion of price. That opinion is then reviewed at a corporate underwriting office for “validity”. Why is that person’s opinion more important than everyone else’s? In theory, it is because it comes from a neutral third party. However, often times it is clearly a less educated opinion than that of those actually financially affected by the transaction. People who tend to do a lot more research on the value of a home in a particular neighborhood where they want to raise their family and make a huge investment.
The shame of it all is that the current system of assigning appraisers to areas they may or may not be very well familiar with is not only detrimental to buyers and sellers, but also to the banks themselves. In some cases they are missing out on some great loans that they would have benefited from making, and in other cases they are lending more than they should because the price is out of whack.
Unfortunately, this is the best and most efficient system that we currently have. In the old days before the real estate market imploded, lenders could assign an appraiser of their choice. In theory this allowed them to select somebody that knew the area well. Of course, we all know that system didn’t work either because there was too much corruption in it by allowing the loan officer’s, whose commissions depend on the deal going through, to select the appraiser.
What this all boils down to is that, for the foreseeable future, this is the best and only system we have. It means that buyers and sellers will periodically have to make difficult and unfortunate decisions when appraisals come in short of value. They will either have to increase their down payment or get the seller to lower the price, which can be difficult in this low inventory market. Of course, it also means that some purchases that are truly out of whack when it comes to value will also be exposed.