What happens when it doesn't appraise?

In the past few months, I have participated in a couple of Marin real estate transactions in which properties have not appraised at their contract price. Conversations with colleagues indicate that others are seeing this happen, too.  Banks are being more cautious and conservative than they've been in the past, an evolution since the mortgage meltdown.

One might think that if a seller finds a buyer who is willing to pay the seller's price and who can qualify without maxing out their debt-to-income ratio, there should be no issue.  But this phenomenon can create a sticky situation for sellers.  Whether or not the buyer's loan is impacted, a low appraised value introduces a new basis for the buyers to try to renegotiate the price, which most sellers could reasonably expect a rational buyer to try to do.   

Suddenly, the price - once thought to be negotiated and settled - becomes subject to negotiation a second time.

Sellers have several options in this scenario:

1)      Request a second appraisal.  Depending on the outcome, a new appraisal may buy you some leverage.  For the purposes of buyer-financing, bear in mind that lenders can vary in their consideration of a second appraisal.

2)      Stick to the desired price.  If the buyers were willing to pay your price before the appraisal, maybe they, or someone else, would still be willing despite the lower appraised value.  However, a buyer  must not only be willing, they must also be able to proceed at the contracted price - the buyers are likely to have to come up with the difference in cash between the appraised value and the contract price to enable the purchase.  And they must either feel confident in the value they are getting for their money, or feel comfortable with the possibility that they may be over-paying.  Buyers can make this decision intelligently by considering the appraisal as one opinion of value, while factoring in other market conditions, the existing inventory and their personal interests and objectives.  There are risks and trade-offs for a seller who pushes back on the appraised value - he/she has to be comfortable with the possibility of losing the buyer and having to put the property back on the market.

3)     Hold off on the sale until the market improves or until better comparable sales in the area are achieved. This was a viable alternative for my sellers, who weren't under pressure to sell; the property had been in the rental market before and they could have put it back in as the rental market continues to be very strong in Marin.

4)  Of course, you can agree to renegotiate.  Just because the appraised value came in lower than the negotiated price, doesn't mean the appraisal is inaccurate.  Sometimes, deferring to the third-party appraisal can help to resolve a difference in views on price.

A proactive tact that sellers can take before accepting an offer, is to stipulate to prospective buyers that the contract price is to be honored even in the event that an appraisal comes in low - this sets an expectation that the buyer will be expected to come up with the difference in value.  This will narrow the playing field to the most able-buyers, but may eliminate some viable ones, as well.  Market conditions and the appeal of the subject property should be considered before stipulating such upfront demands on the buyer.