With home prices rising, appraisals are a key factor...

It's important for buyers, sellers, and Realtors� to understand property appraisal basics...

A property appraisal doesn't have to be shrouded in mystery and looked at as something that will torpedo your deal. When a home is properly priced in relation to recent comparable sales, an appraisal is no reason for fear.

Today we're discussing the very basics of real estate property appraisals, why they are used, and how to help your clients be more comfortable with them.

An appraisal is NOT a home inspection,

It is an opinion of market value,

while the home inspection is an opinion of property condition.

They serve different purposes in a transaction.

Let's start with why an appraisal is even necessary...

When buyers will be using financing, lenders require an independent appraisal of property value in order to determine the Loan-to-Value (LTV) ratio on the loan. Lenders' risk management dictates that the purchase price be supported in relation to similar local properties.

Higher LTVs mean higher risk to the lender, so without knowing if the property is really worth the contract price paid, lenders would have no idea what the actual LTV was.

Without knowing the actual LTV, they'd have no idea how much risk they are assuming if the loan is approved and funded.

Many terms of a mortgage loan depend on the LTV, so it makes sense that the "V" in that ratio be supported.

Here are two very important points to take from today's edition :

- Appraised value is always compared to contract price,

not loan amount.

- Lenders use the lower of contract price or appraised value

to calculate LTV.

To keep appraisals impartial and independent,

lenders order them through Appraisal Management Companies and are insulated from individual appraisers. In fact, we do not speak directly with appraisers, only through the AMC.

Good appraisers have local market knowledge which they use to contribute to the valuations they make in their sales comparison approach. This local knowledge is important because each appraiser must be able to justify and support his or her evaluation of a property's market value.

Notice that I used evaluation instead of calculation. This is because the appraisal has a subjective component which can modify the hard numbers found in a comparable closed sales report. This is where the appraiser's local knowledge is not just useful, it is required.

- Does a pool add as much value in one neighborhood

as it does in another?

- Does an upgraded kitchen increase value in a condo

as much as it does in a single family house?

- How much value does that den or extra bedroom add?

Local knowledge is mandatory when considering market value.

All appraisers must submit their findings on a standardized form, the 1004 Uniform Residential Appraisal Report. If you'd like a PDF copy for your files, send me an email and I'll get one over to you.

In another newsletter we'll discuss what details go into which sections on the 1004, so today I'm just going to list the sections :

   - SUBJECT  (property being appraised)
   - CONTRACT (sales contract details)
   - NEIGHBORHOOD (urban, suburban, rural, density, description)
- SITE (subject property location, zoning, utilities, easements)
- IMPROVEMENTS (house info - age, construction, size, amenities)
- SALES COMPARISON APPROACH (info on the comps)
- RECONCILIATION (statement of method used and final value)
   - ADDITIONAL COMMENTS (appraiser remarks)
   - COST APPROACH (new or unique construction, major rehabs)
   - INCOME (rental / investment properties)
   - PUD INFORMATION (managed developments, condos, HOAs)

In gathering data for the Appraisal Report, the appraiser takes photos of both the exterior and interior of the subject property, makes notes on condition, upgrades, and amenities, then heads to the local MLS and public records to research comparable recent sales.

When presenting a CMA to establish an asking price at your listing appointments, be sure sellers know :

Only closed sales are used for appraisals' comparable values;

current listings cannot be used as comps.

The most accurate comps are closed sales within the past 3 months and within a mile of the subject.

Here in South Florida, with so many planned and gated communities, the most reliable comps are those within the same community or development.

This is where the appraiser's local knowledge really comes into play. If enough suitable comps can't be found within the same development, the appraiser must evaluate how similar a comp outside the subject property's development might be.

And that wraps up our introduction to real estate property appraisals. I'll be going into further detail in future newsletters.

Remember, when you take a new listing or start talking with a prospective buyer, you don't really know whether or not the deal will end up involving financing and an appraisal. Help your buyers and sellers understand the basics so they can be more comfortable with the appraisal process.

Well-informed clients make for much smoother transactions...