What is a home appraisal gap?

white and brown wooden house

Everything buyers need to know when a home is appraised for less than your offer

An appraisal gap is the difference between the amount you offered on the home and its appraised value. Because a lender will typically only lend up to a percentage of the appraised value, the buyer must cover the appraisal gap with alternative funds or through additional negotiation. 

In this article, we’ll discuss how an appraisal gap works and what you can do about it. 

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How does an appraisal gap work?

After you make an offer on a home, your lender will order an independent appraisal to ensure they aren’t loaning more money than the home is worth. So if you are using a lender to finance the home purchase, they’ll have an appraisal done before they underwrite your loan. 

The appraisal results usually come in a couple of days but can sometimes take up to a few weeks. And while a low appraisal may derail your home purchase, it can also help protect you from buying a home that’s worth less than the seller’s asking price. If you purchase a home for more than it’s worth, you may lose money when it’s time to sell.  

If the home’s appraised value is the same as or more than the purchase price, the sale will likely move forward as planned. If the property appraises for less than the contract price you agreed to, that is called an appraisal gap. Because your lender won’t loan more than a specific percentage of the home’s appraised price, you will have to make up the difference between the appraised value of the home and the purchase price. 

Let’s take a look at an example:

You found a home you love and offered $300,000 with a 20% down payment. Now, you need to take out a mortgage loan of $240,000 to cover the rest. Most lenders require that their loan not exceed 80% of the value of the home so, in this example, paying 20% down for a $300,000 home puts your loan in this qualifying loan-to-value ratio (LTV). But what if the appraiser says the home is actually worth a little less than the $300,000 you’ve already agreed to pay?

Suppose the appraiser values the home at $275,000. There will be a gap between what your bank will lend you and how much you will need to cover the purchase of the home. The $240,000 you needed is now 87% of the value of the home ($240,000 mortgage loan / $275,000 appraised value of the home), which exceeds the lender’s maximum.

If the lender requires a standard maximum LTV of 80%, they would now loan you $220,000 for the $275,000 appraised value. In this example, there is a $20,000 difference between the $240,000 you were approved to borrow and the $220,000 you can borrow for this home.

Purchase price20% Down paymentAmount needed
$300,000 $60,000$240,000
Appraised value80% loan-to-value maximumAppraisal gap (amount needed – loan-to-value maximum)

What to do when there is an appraisal gap

At this point, you have a few options:

  • Make up the difference in cash – If you have an extra $20,000 that you can put towards the purchase, you’ve covered the gap.
  • Negotiate with the seller – If the appraisal is less than the seller’s asking price, you may be able to negotiate with the seller to see if they will accept a lower purchase price. 
  • Request a second appraisal – If you believe the appraisal came back lower than it should have, you can request a second appraisal from your lender and hope that the next appraiser values the house higher. The lender does not have to honor this request, though, and you would be required to pay for it. The lender must order the appraisal, you cannot order your own appraisal in this case.
  • Appeal the appraisal – If you have reason to believe that the appraisal came back lower than it should have and have valid evidence (missed comparable properties in the analysis, the wrong comparable properties were included, etc…), you can appeal the appraisal and ask the lender to review it. If the lender believes your appeal may have relevance, they can request the appraiser to reevaluate the result. 
  • Switch to a new lender – By moving to a new lender you can start over and order a fresh appraisal that could come in closer to, or at the purchase price. 

Do I need an appraisal?

Most likely, yes. If you are buying the house with a mortgage, your lender will likely require an independent appraisal. This is to ensure they aren’t lending you more than the home is worth, leaving you with less equity and themselves with more financial liability.

If you’re paying in cash, you don’t need an appraisal. You may include one as a negotiating tactic with the seller, but it isn’t required and is generally considered a bad faith negotiating tactic.

a man inspecting the kitchen drawer
Did you run into an appraisal gap while homebuying? This doesn’t have to be the end of the road. You can appeal the appraisal or start over with a new lender

How can I protect myself from an appraisal gap?

There are three ways to protect yourself from a potential appraisal gap. Remember, you won’t know if there’s an appraisal gap when you make your offer, so you should make sure you’re protected. These are your options:

Include an appraisal contingency in your offer

When you make an offer, you have the option to include an appraisal contingency. This means that an appraisal gap will trigger a clause in the contract that says the buyer is no longer contractually obligated to move forward with the purchase. This contingency is often waived in a competitive market to make the buyer’s offer more appealing (for example with the Flyhomes Cash Offer), but that can lead to headaches for the buyer if there is a large appraisal gap.

Get appraisal gap coverage to limit your exposure 

Appraisal gap coverage is a compromise between including an appraisal gap contingency and waiving it altogether. Appraisal gap coverage is language included in the offer that states you will pay a certain amount towards the appraisal gap but not go above the purchase price. This should be negotiated up front and agreed to prior to signing the mutually agreed purchase and sale contract.

Waive the appraisal contingency

If you know you have the cash to cover an appraisal gap, you can waive the contingency and pay the appraisal gap. This can make your offer more attractive because it’s one less thing that sellers have to worry about derailing the home purchase. 

Seek appraisal gap financing

Appraisal gap financing or appraisal gap grant programs are available to help cover the cost of the appraisal gap for homes in neighborhoods where communities want to encourage homebuying.

Do I need to worry about an appraisal gap?

Appraisal gaps are more common in a seller’s market, where buyers tend to offer higher and higher prices to win bidding wars. In May 2021, 20% of home purchases dealt with an appraisal gap compared to 8.4% in the first quarter of 2020. When prices rise rapidly, as they did throughout 2020 and 2021, it takes appraisals time to catch up, increasing the likelihood that you’ll have to deal with an appraisal gap when you purchase a home.

While this can create difficulties, there are ways to mitigate the risk. Getting appraisal gap coverage and including a financing contingency in your offer can help make it, so you don’t have to walk away from the purchase.

How do you handle an appraisal gap?

While appraisals can create added stress, it’s usually not the end of the road for buying the home you love. Products like the Flyhomes Cash Offer allow you to close on the home on your own terms, removing the stress of the seller/closing date. This gives you more time to work through several solutions of dealing with an appraisal gap.

A skilled real estate agent and mortgage lender will understand the local market and know how to find solutions if you face an appraisal gap. 

About the author: Stephanie Mickelson is a freelance writer based in Northwest Wisconsin who specializes in real estate, building materials, and design. When she’s not writing, she can be found juggling kids and coffee.

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