- An appraisal gap occurs when a home appraises for less than the price you offered.
- Appraisal gaps can increase your out-of-pocket costs or even force you to back out of a purchase.
- Including an appraisal gap guarantee with your offer can help prevent losing a home due to appraisal issues.
But if the appraised value of a house comes in lower than the price you offered it can complicate things with your mortgage financing.
However, an appraisal gap doesn’t necessarily mean you’ll have to cancel the purchase. There are ways to work around it.
What is an appraisal gap?
If the appraiser determines the property isn’t worth what you’ve offered, you’ ve got a problem.
“When an appraisal comes in low, there is what’s referred to as an appraisal gap — or the difference between the agreed-upon purchase price and the appraised value,” says Bill Gassett, a real estate agent with RE / MAX and founder of Maximum Real Estate Exposure. “When a buyer is not financially able to bridge the gap, the sale can fall through.”
Fortunately, there are a few ways to keep the transaction alive — and even proactively prevent an appraisal gap from throwing off your purchase.
How the home appraisal process works
Lenders order home appraisals to protect themselves if you default on your loan. For example, if you stopped making payments, they could foreclose, sell the property, and be more likely to raise enough cash to cover your overdue loan balance.
During the appraisal, a real estate professional will inspect the property and assess its current market value. To do this, they’ll take into account the cost of rebuilding or replacing it, the value of recent comparable homes sold in the area, and any income-earning capabilities of the property. They will also usually conduct a physical evaluation of the home.
There are several reasons an appraisal might come in lower than what you’ve offered for it. Home values in the area may have declined recently, or the appraiser may have uncovered defects in the home or determined it needs improvements. simply offered too much for the property, perhaps to beat out other buyers or win a bidding war.
As Gassett explains, “One of the downsides of a bidding war is the increased opportunity for a home not to appraise at the agreed-upon price.”
What is an appraisal gap guarantee?
Including an appraisal gap guarantee — also called an appraisal gap clause — in your offer can prevent appraisal problems from throwing off your purchase. They can also give you a leg up when making offers on properties.
“It puts in writing a buyer’s intention to cover the difference between the purchase offer and the figure calculated by the appraiser, up to a certain amount,” says Tabitha Mazzara, director of operations at mortgage lender MBANC. “It’s the buyer’s promise that if the appraisal comes up lower than their offer, they’ll submit cash to the seller to cover the funds greater than the amount the mortgage company would lend on the property. “
Sellers like appraisal gap guarantees because they reduce the risk of an offer falling through due to appraisal problems. As a homebuyer, you might include an appraisal gap guarantee to give sellers more confidence in your offer or help it stand out from other buyers. On the downside, though, it does mean you could potentially be on the hook for more out-of-pocket costs if the appraisal comes in low.
“In a hot real estate market where bidding wars are common, a buyer with an appraisal gap guarantee written into the offer will look more attractive to the seller than one without that flexibility,” Mazzara says. “It might mean the difference between getting the house or not. “
3 other ways to handle an appraisal gap
Covering an appraisal gap out of pocket is only one way to handle a low appraisal. You might also be able to:
You can attempt to negotiate with the seller and ask them to accept the lower appraised value for the home instead of your original offer. You might also consider asking them to meet you somewhere in the middle, with you covering a portion of the appraisal gap and the seller also accepting a slightly lower price than your original offer.
2. Challenge the appraisal
If you and your agent think the appraised value is inaccurate, you can challenge it with your lender. To do this, you’d write a letter to your lender and include evidence as to why the appraisal is wrong. Perhaps the appraiser missed features of You would also want to include recent, comparable sales that support the property value you think is more accurate.
3. Terminate the contract
It’s not ideal, but if you can’t come to terms with the seller, a new appraisal won’t support a higher value, and you’re unable to make up the appraisal gap out of pocket, you may need to walk away from The transaction. Keep in mind that this is only possible to do without a penalty if you’ve included an appraisal contingency in your contract. These allow you to back out of the deal if the home doesn’t appraise for what you offer.
The bottom line
Appraisal gaps can throw a kink in your homebuying goals, but there are ways to deal with them. If the above strategies are unsuccessful, Mazzara says, “It’s time to get creative.”
“The buyer may waive the inspection, pre-underwrite the mortgage loan, closer sooner or close later at the desire of the seller, or offer the seller a leaseback,” she says.
Just make sure to talk to your agent about these options before moving forward.