How much is a home worth?
If you’re like most homeowners, then your home is your most important financial asset – but how do you know what a home is worth and why should you care?
The least sexy part of the homeowner experience is determining a home’s value and the factors that influence it. The amount a lender is willing to borrow for a home loan is determined by this process.
While it’s impossible to know what someone is willing to pay for your home in the future, it’s important to be able make an educated guess based on the recent sale of similar homes in the area and different features and aspects of your home. This educated guess of a home’s value is called an appraisal, and it’s very important to anyone thinking of taking out a home loan to purchase a home. Unless you’re paying straight cash for your home, this appraisal determines how much a lender will let you borrow. The lender isn’t interested in handing you more money than what the home is worth in case you can’t pay this back and they have to sell the home themselves.
While this isn’t a very sexy process, it’s important to understand that appraisals are done by unbiased third party professionals who analyze many aspects of the home, including its condition, location, and features.
Fannie Mae’s Uniform Residential Appraisal Report is what these appraisers typically fill out to help guide their analysis and standardize their methodology. The neighborhood, similar sales, and both the interior and exterior of the property are all considered in this analysis, and a conclusion and determination of the fair market value is determined.
It’s important to understand this appraisal also is considered for the amount of property tax you pay and other things like collateral for other loans, so your home’s value affects many different aspects of your life.
Interesting pieces of data included in this report are a street map of the property, the comparable sales actually used for the analysis, photos of the exterior and interior of the home, the methodology used to calculate the square footage, and a sketch of the exterior of the building. Public tax and land records are also obtained to help aid in this analysis. The people conducting the appraisal also have to be familiar with the local area. They can’t just randomly show up from out of town and pump this thing out, because local market trends are key aspects these third party professionals need to factor in to the report, and they have to be aware of these.
The appraisal’s purpose is primarily to protect the lender’s interests against over-borrowing when taking out a home loan. The timing of the appraisal is interesting because it occurs after the transaction is completed, not before. It’s actually in the best interest of both the seller and the buyer to have the purchase price close to the appraised value to ensure that the transaction goes through, and both parties can walk away happily. In the event that the appraised value comes back lower than the purchase price, the buyer can lower the purchase price so the seller doesn’t have to come up with the extra funds to make up the difference between the lender’s home loan amount and the purchase price. If the buyer refuses to lower the price and the seller can generate the funds required to fill the gap, it is possible to secure a second opinion on the appraisal amount or work with the lender to increase the home’s valuation.
Your home’s value is incredibly important to understand, and the factors that increase or decrease its value are sometimes confusing to understand, and they take both buyers and sellers by surprise. For many homeowners, their home is their largest investment, and ensuring a good return on this begins with understanding how the value is determined and the factors that influence the appraisal process.
If you’re new to the homeownership experience, you might make the mistake of thinking that an appraisal is the same as a home inspection. These two are completely different. A home inspection is a technical analysis of the home’s adherence to local building codes. The appraisal is a purely financial analysis. Estimated repair costs and required corrective actions are the results of the home inspection.
Although not the sexiest part of the homeownership experience, appraisals are fundamentally important to the functioning of the real estate market. Without appraisals, this market would crash, and home loans would be impossibly problematic to issue and be repayment compliant.
Next time you go through the process of applying for a home loan, you will know the various lengths and standards which are followed to make sure the valuation is fair and accurate.