Tool offers buyers deposit protection when canceling deal

Ever since Fannie Mae introduced new residential appraisal guidelines a couple of years ago, some transactions haven’t closed because the listing didn’t appraise for the price agreed to in the purchase contract.

There was a time when market value was defined as the price a willing and able buyer would pay and a seller would accept — neither party acting under duress. It would appear that market value is now determined by underwriting requirements, which tend to be conservative and in some cases are not in synch with market realities.

In one case, there were two offers on a property in a popular Oakland, Calif., neighborhood. Both offers were for the same price and for more than the asking price. The appraiser was from out of the area and apparently out of touch with the subtleties of the local market.

The house in question was located on one of the most popular streets in the neighborhood. One of the comparable sales was on a nearby busy thoroughfare. Another was a house that needed $40,000 of foundation work. They were not good comparables.

The appraiser appraised the house for less than the purchase price, even though she knew that there were multiple offers at the purchase price.

HOUSE HUNTING TIP: Buyers who need a large loan amount in order to complete the purchase are at risk if they don’t include an appraisal contingency in the purchase contract. An appraisal contingency protects buyers if the appraised value is less than the price they’ve agreed to pay for the property.

Let’s say the purchase price is $500,000. The buyers need a mortgage for 90 percent of the purchase price, or $450,000. The house appraises for $475,000. If the buyers qualify financially, the lender will give them a mortgage, but only for 90 percent of the appraised value, or $427,500. The buyers need to come up with an extra $22,500 to close the deal.

If the contract includes an appraisal contingency, the buyers can usually withdraw from the contract without penalty, depending on how the contract is written. Without an appraisal contingency, the buyers’ deposit would be at risk if they backed out of the contract because the property didn’t appraise for the purchase price.

Sometimes buyers and sellers will renegotiate the price in order to keep the transaction moving forward. To bridge the gap, the sellers might reduce their price and the buyers could make a larger down payment if they have the extra cash.

Another strategy is to have a second appraisal done and hope it comes in higher. However, the second appraiser could value the property at a lower price.

Buyers purchasing in a multiple-offer competition might choose not to include an appraisal contingency in their contract under certain circumstances. For instance, an all-cash buyer, who doesn’t need a mortgage to close the deal, doesn’t need an appraisal contingency for protection. He or she has enough cash to close without the help of a lender.

Some all-cash buyers don’t want to buy a home unless it appraises for the price they’ve agreed to pay. In this case, an appraisal contingency should be included in the contract.

Buyers who have lost out in competition multiple times in the hot niche markets around the country might make an offer without an appraisal contingency. The larger the cash down payment, the less risk involved.

For example, if you’re buying a house for $1.5 million and you want a $729,750 mortgage, the house would have to appraise very low before the lender would give you a lower loan amount than you need.

A lender who’s willing to give you a mortgage for 75 percent of the purchase price will lend $729,750 as long as the house appraises for $973,000 or above.

THE CLOSING: The risk factor is low.