What is an appraisal contingency?
What is an appraisal contingency in a real estate transaction?
A an appraisal contingency protects the buyer in case of a low appraisal. An appraisal contingency is typically only used if a loan is being obtained and is very common in this situation. If an appraisal comes in higher than the sales price than it is a bonus for the buyer but if it comes in low it creates a problem because the lender will only loan based on the appraised amount of the house. If the appraised value of a home comes back less than the purchase price the buyer can give notice of low appraisal. They have to do this within 3 days and include a copy of the appraisal.
If you are a seller you do not typically get a copy of the appraisal unless it comes in low. It is paid for by the buyers and it their property. Usually the listing agent will hear from the lender whether or not it met value and if any repairs are needed.
If a seller is given a notice of low appraisal by a buyer then there are 4 options
- A reappraisal or reconsideration of value at sellers expense in an amount equal to or greater than the sales price – I will warn you unless there is an error on the appraisal this rarely works but worth a try. The lender also has to approve this process and the appraiser.
- Sellers can agree in writing to reduce the purchase price to the appraised amount
- Seller to reduce the sales price to an amount higher than the appraised value and for the buyers to pay additional funds to make up the difference between the sales price and appraised value
- Or seller can reject the low appraisal
If the seller delivers a reappraisal or reconsideration at or above the purchase price or agrees to reduce the purchase price to the appraised value and the lender accepts the response, then the buyer is bound to move forward (if they are getting a conventional loan.) If they are getting an fha, va or usda loan then they are not bound to buy but have the option to continue to closing.
If seller chooses to reject the low appraisal buyer then has 3 days to either waive the appraisal contingency or terminate the agreement and receive their earnest money back.
If seller chooses to propose a reduced price that is higher than the appraised value and have buyer pay additional funds then the buyer has 3 days to accept the proposal and show proof of additional funds or terminate the agreement and receive their earnest money back.
If the buyer is getting an fha/va or usda loan buyer is not obligated to complete the purchase unless they receive an appraisal certificate by a fha/va or usda endorsed lender showing the appraised value. The appraised value shows the maximum mortgage that an fha/va or usda lender will insure.
An appraiser can also call out repairs that are required to be done prior to a loan approval. These are typically safety issues but FHA/VA and usda can have a little stricter requirements. An appraiser will require for all loan types that there be carbon monoxide detectors on each level of the home and the water heater be double earthquake strapped.
A buyer can elect to not include an appraisal contingency but without this contingency a buyer may have to change their loan type, amount, interest rate or contribution in order to cover the purchase price or if a buyer is unable to close due to a low appraisal the seller would keep the earnest money.
The appraisal contingency is quite complex. Low appraisals do not happen a lot but the do happen. It is super important to have a knowledgeable real estate agent that knows the rules and how to negotiate on your behalf, whether you are a buyer or a seller.
If you have any questions regarding appraisal please comment below. Watch my video on what is a financing contingency.
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