Just like banks who provide mortgages for people buying a home to live in, most private lenders, who finance real estate investors, require an appraisal on a property before making a loan. The appraisal is used to protect the lender – it helps them evaluate if it’s a good deal for the investor and the appraised value is also usually used to set the maximum loan amount.
I have been doing appraisals for private lenders for over 10 years. During that time on many occasions the appraisal has differed significantly from the borrower’s estimate of value. Often times this is because the investor does not fully understand how appraisers select the comparable sales used to value the property. If you understand these three things about appraisals, it will help you evaluate your deals:
Listings are not sales: The estimate of market value is based primarily on homes that have SOLD. Anyone is free to list their home for any amount they like, it doesn’t mean it’s going to sell for that amount. We do use listings and pending sales to help understand the current state of the market in the neighborhood, but the appraised value must be supported by closed sales.
Similar houses in the immediate neighborhood are always going to be given the most weight: If the subject is a renovated ranch and there have been 5 recent sales of renovated ranches in the immediate neighborhood, then competent appraisers are not going to use sales from outside the neighborhood to value the property. At the same time, if your house is a 3 bedroom ranch and all of the closest sales are 5 bedroom colonials, the appraiser will likely go a little further away to find sales of homes similar to yours.
School District can often be better indicator of value than Town: In many neighborhoods, two houses can be located on the same street and in the same town but in different school districts. Most appraisers will always try to use sales from the same school district even if it means using sales from a different town. This is because school district is often a huge motivator for where buyers choose to purchase in the market.
When evaluating potential investments, it is always important to make sure that the sales you are using are as similar as possible in location, size, style and condition. This will help you avoid surprises when the appraisal gets delivered to your lender.
About Keith Thornton
Keith Thornton is Principal of Greater NY Appraisal Services. He has been a licensed appraiser for more than 20 years and has been doing appraisals for private lenders for more than 10 years.