Low Appraisal? How to Keep a Home Loan and Sale From Collapsing

Whether the real estate market is hot or cool, home buyers and sellers can get upset when the appraiser who is examining a home on behalf of the mortgage lender sets a value below the agreed-upon sales price.

Even though the borrower pays the appraisal fee, the appraiser is really working on behalf of the lender -- to determine how much a home is worth so that the bank doesn't lend more than it should.

How does a low appraisal affect a real estate sale? How should you handle the situation?

Let's say you plan to purchase a condominium unit and enter into a contract with the seller to pay $500,000. You give the real estate agent $10,000 as the "good-faith deposit," to be held in escrow until settlement takes place.

You plan to obtain a 90 percent loan ($450,000) and put down the difference of $50,000 (plus closing costs) in cash. Your lender has advised that you will qualify for such a loan but that its approval is contingent on a satisfactory appraisal.

You ask your real estate agent whether you should include appraisal or financing contingencies in the sales contract. Those are paragraphs that deal with what happens if the appraisal comes in low or if you are unable to get financing at specified terms. (That's what would happen if the appraisal came in low.)

These contingencies give the buyer a number of options, including the ability to get out of the contract without losing the deposit. They're common in real estate contracts. However, in recent years, when the sales market was so hot, many buyers dropped them to make their offers more attractive to sellers.

Your agent tells you other units in the area -- indeed, in the same complex -- have sold for $500,000 or above and that there should be no problem with the appraisal.

Because you really want the unit, you do not include any contingency.

But then the appraisal comes in at only $460,000. What rights do you have?

Because you chose to skip the contingencies, you may be stuck. Your lender will still lend you 90 percent -- but it will be 90 percent of the appraised value, not the contract price.

This means that although you may have to pay the full $500,000 for the unit, you will get a loan of only $414,000. Instead of paying $50,000 in cash for the difference, now you have to cough up $86,000 -- whether or not you have the money.