Real Estate Appraisals and How They Work

Hi everyone, I’m James Garbutt. And I’m Denny Dumas. And this is the Garbutt Dumas Real Estate Podcast.

Denny: I think it is key to point out before we go into this one, that we’re going to come at this from an extremely neutral perspective and not let our biases or personal opinions affect this podcast in any way. Appraisals, Monica.

Monica: This is just facts guys. Appraisals don’t always mean much. We’ve had so much experience with appraisals.

Denny: Let’s first start with: what is an appraisal? Why is it necessary, when is it done. So essentially anytime you are taking financing on a property, there’s going to be an appraisal done. The purpose of it is for a lender, your bank, Scotia, whoever you’re using for your mortgage funds for them to have a third party look at the property to give them a value so that they know how much they should be lending on that property. 

If you write an offer that’s 2 million bucks on a condo, when that condo is worth $800,000 the appraisal is not going to look that pretty and the bank wants to know that they should only be lending 80% of 800,000 not $2 million dollars. Appraisals are, I think is a necessary part of the real estate transaction for that purpose. But we just want to share how they actually occur.

Monica: So the appraisal is the bank doing their due diligence on the purchase. During times when a for example, during COVID and everything was shut down. Banks did not visit properties at all. They would look at the listing online, they would call the listing agent and then they would say boom, here’s what we think it’s worth. In all other times outside of that, occasionally they drop by and see the property. I would say one then every four or five of our sales they actually go by.

Denny: More often now. So during COVID yeah, it was pretty rare that they go in person. I think it depends on the property type. If it’s a newer condo building, it’s pretty easy to just look at photos and look at the last few sales in that building and come up with a pretty accurate number. But unique homes, I don’t know exactly but my guess would be like close to 50%. Okay, go through.

Monica: Yeah, that aren’t like the condos and stuff that you’re okay. Yeah. So what happens is, you get an accepted offer, you send your offer to your bank, the bank decides that they need to do an in-person appraisal and they send somebody by. This person usually looks at the listing, they come by, they snap a few photos. Yes, it’s renovated. They might ask how much you spent on the renovation, they’ll always ask what the contingency or if there’s anything coming up in the building, because that goes towards their analysis of how much you’d be able to borrow on the property and then from there, they go back to their bank, they write it all up and they send it to your mortgage broker and they say okay, we say the property is worth this much, you can lend on this much. Usually if there’s multiple offers on the property, if it’s had market exposure, typically, we get exactly what the multiple exactly what the accepted offer price, we get that back saying “Yep, this is what it’s worth”.

Denny: Weird, huh?

Monica: So weird. I mean, it’s pretty clear at arm’s length transaction when you have listed a property on MLS, you have marketed correctly, you have held open houses and shown the property to potential buyers. And then there are three that want to write an offer and then you get an accepted offer. It’s pretty clear that that’s the market value. Market value is what a buyer is willing to pay for your home. It is different than an appraisal, it is different than an assessment. Those are three completely different things. 

Market value is what a buyer is willing to pay. So when you have an accepted offer in place, with a buyer that you don’t know, it’s not your mom, it’s not your best friend. It has been marketed to the public and someone from that public has chosen to written an offer, written an offer. When you have an accepted offer, clearly that is what the market is determining your home is worth. So in most cases, and I would say like 98% of the time when a home has been on MLS and marketed and gets an accepted offer. The appraisal comes back at the exact number of the accepted offer. 

Which as a consumer you’re probably thinking like, Well, why did I waste 300 bucks if they know that it was marketed on MLS, we did this properly, and we have an accepted offer at $798,000 and the appraisal comes back at 798,000. Seems like a wasted 300 bucks. It really is just the bank due diligence at that point. But the issue comes into play when, clients, for whatever reason, maybe they’re planning to do a renovation on their home. Maybe they’re planning to take some equity out to give to their children. Maybe they’re planning to take some equity out to buy an investment property, whatever that may be. And they’re not marketing the home for sale. They are not on MLS, they’re not even in show ready condition. So the challenge is when you go to refinance your home or condo or whatever that may be, appraisals can vary greatly when you do not have an accepted offer in place.

Monica: Because at this point the appraiser has to decide what market value is. And the appraiser in my opinion, has no tools to be able to determine what market value is. They’re not Realtors, they like you would need to call probably 5 Realtors if you wanted to get a variety of answers, and you’d have to get those five realtors to tell you what they think the market value is and then you can maybe blend that all together and say okay, this is what the market value is. 

But appraisers other than looking up a few properties that have recently sold in the neighborhood, especially when they’re unique, especially when they’re detached homes. It’s really complicated for them to understand what market value might be. And we saw it many times over the last few years where maybe the appraiser doesn’t realize that yes, that home is technically in Coquitlam right here. And the other townhomes in that area. Been really selling for that much. But it’s actually more close to Port Moody than you really think and the reason why these townhomes are selling for more is because of the proximity to Port Moody. The proximity to the train and the proximity to all of these amenities. They’re not, it doesn’t it’s not in line with the value of the townhouse that’s in Coquitlam. So it’s really hard for appraisers to be able to determine value when they don’t know like the intricacies of the real estate market.

Denny: There’s not a shot at appraisers, like specifically, it’s shot a little bit at the system and the process. The, like Monica said, the tools available to them like they have access to MLS which is great. But they use an algorithm to pull a few similar properties in an area and just spit out a number which is not an accurate way of determining market value. 

They’re not really assessing a view or like understanding the time, energy and like money, that a renovation actually takes. So I want to give an example of an appraisal. So I had a client recently who is planning a renovation on their own. They want to take some equity out to do this renovation. They hire, order an appraisal from their bank appraiser comes, they get the appraisal back the two days later, the appraisal number is $1.74 million. 

He asked me what I thought the home was worth and I said probably in like the $1.85 range but my guess based on sales, this was in February. So based on sales, my guess is that your appraisal is going to be $1.74 and it came back at $1.745. And he’s like: “How did you know?” I was like well, I looked at the last few sales and there’s no homes that are as big as theirs with a view. They have an updated kitchen so like with the updated kitchen. So we’re like in that neighborhood you’re looking at smaller lots, smaller homes, no view, no renos. So a lot of the sales are in like, the $1.3- $1.4 range.

 How do you accurately predict the sale of a bigger home, a bigger lot, with updates, with a view, from a $1.3 – $1.4 for sale? It’s a guess. It’s a guess. We do it too. We just see so many more properties and we see this equation so much more often. That maybe our, our predictions can be a little more accurate in terms of what a seller is looking for in terms of an experience on market but at the end of the day, we also have to fall back on of, the buyers, the market is gonna tell us what it actually is worth. Right? 

Monica: Yeah. So it’s not like you said it’s not a dig at appraisers at all. But if we’re actually looking for what that home is worth on the market, versus what the home is worth based on past sales, those are two completely different numbers. And there’s no way for that appraiser to know that a home in that specific neighborhood. Buyers will be looking at that home from that or looking at homes in Port Coquitlam, Coquitlam, Port Moody like the type of buyer that’s looking at that home isn’t looking at homes just on that street, so that, there’s no way to determine market value based on homes that have sold, you know, 100 meters around in a giant circle of that house. There’s just no way to determine market value.

Denny: So, not being very happy with this appraisal, orders is another one. Four or five days later, appraiser comes, appraisal comes back a couple days later. $1.83 a little more exciting. $90,000 difference, but I think the point of this story is just, when you’re on market and buyers are actually coming through your home and being able to write offers. It’s a fairly simple process most of the time and most of the time there’s not going to be an issue with an appraisal. It’s when you’re refinancing, you’re not a market, maybe coming out of a really slow market like we are right now. There’s $100,000 gap in two appraisals done three days away from each other.

Monica: Right. So in markets like the one that we’re experiencing right now where things are moving in directions that are not very predictable. What should you do if you get an appraisal back that you don’t like? This is advice to buyers out there. Realtors out there. If your client or if you get an appraisal back on a property and it’s not what you expected, order another appraisal. 

Pay the few $100 dollars, order another appraisal. It’s very, very likely, we’ve seen it happen many times, I had to happen to myself when I was buying and selling. I’ve had it happen to clients that bought townhouse subject free and the appraisal came back $100,000 less than what our accepted offer was, got it appraised by someone else boom, it was the accepted offer price. So don’t panic if the appraisal doesn’t come back what, with what you were hoping it would be, just order another one. Just keep ordering them until you get the price point that you like.

Denny:  I mean, start though with connecting with the appraisal company and asking to see what comparables they used. Because often they will just send them to you. And there’s been numerous times in the past where I’ve just replied being like okay, this is not applicable based on these three reasons. This one you shouldn’t even look at because of the age of the building,this one you shouldn’t look out because location or whatever. And then I’ll usually include another five that say this is a comparable, this has the same view, this is the same age or whatever. And there’s been numerous times in the past where they’ll adjust the appraisal.

Monica: Yeah, some appraisal, appraisers are awesome like that. They’ll be like, Okay, great. They’ll look at it, they’ll really take a hard look at what they’ve done and they’ll kind of try to blend it together or they’ll give you an edited version and other appraisers, other appraisers are like no, this is what I said goes on this is it and I know what I’m doing…

Denny: Because those ones are God.

Monica:  Yeah, we’ve had some appraisers like that. So if you get one like that, don’t even waste your time like move on to the next one, order another one, that’s my advice. We’ve done it, we’ve seen it many times. Yeah, get a second opinion.

Denny: The challenges with lenders though when they see a low appraisal, it may or may alter them lending on the property. So getting more appraisals after you have an accepted offer. If you’ve committed to a bank, may be challenging. You may have to then look at shifting your mortgage to another lender and then doing an appraisal with them for the first time.

Monica: So we can shift a little bit here. How would you tell a seller to prepare their home for an appraisal?

Denny: Don’t be there. But as a listing agent, it is really, really important to be there. 100% of the time. Open the door, chat with the appraiser, share the experience of the listing. We were on market seven days, we had a crazy busy open house. There’s 33 groups that came through. We had, you know, seven showings prior to the open houses. And then we ended up with four offers and here’s our accepted offer price. Sharing that experience often will steer them in the direction of being like okay, we understand that this is not like a family deal. We understand that this is an arm’s length transaction. And this is what buyers are saying the property is worth. 

So I think that’s a really important part. The appraisers, the actual appraisal itself usually takes five minutes, maybe less. And they do take a few photos of your home so it is important to have your home in like show-ish ready condition for an appraisal just, if after an open house, you get the accepted offer and all your kids stuff comes back and everything. They may just not get to appreciate the functionality or the updates that you’ve done or the view if there’s you know, kids toys, quotes, toys stacked halfway up the windows or whatever that may be. So it is important to like, get to the finish line as a seller and that includes being in show-ish ready condition.

Monica: Yeah, I completely agree. The one instance that I was talking about earlier about my client having accepted offer on a townhouse. It was tenanted and the tenants quite literally had like sheets over their furniture, papers taped to the wall. Just it looked crazy, but it was a beautiful brand new townhome if you could wipe all of that stuff there and it’s gorgeous now they live in it and it’s beautiful. But when the appraiser turned up it looked nuts, like it looked absolutely crazy. I don’t think that you have to have it perfect but you need to have it looking good. You need to have it looking good especially if you are selling a reno, especially if you’re selling a view. Have you just had it looking nice. Have it smelling good. Appraisers have biases, just like buyers do.

Denny: I think that was it, That was pretty thorough. Again, if you’re an appraiser, we’re not trying to be offensive in any way. Just sharing the process. Because I think a lot of consumers are, you know, in that like one out of 25 chance that it comes back and it’s lower. Consumers are freaked out. Oh my gosh. This is crazy. But understanding the process and like how this actually happens and what is the purpose of the appraisal and where is it coming from? I think is is very important for consumers.

Monica: I said at the beginning of the podcast that appraisers or appraisals are useless. They’re not. They’re important. You need to be able to get a mortgage. They are important. We’re mostly talking about, it’s very bias. They can come back at any number they can, the very, the range can be quite substantial, depending on what you’re trying to do. If your property’s had time on market, market exposure or if it’s tenanted. 

So just kind of look at what you have, especially if you’re a seller, if it’s tenanted, you know make sure your Realtor is gonna show up so that they can tell them what’s going on with the property. And and you know, explain all the things that you’ve done to it and, and your appraisal should go fine.

Denny: It’s important to note too that like if you’re selling your home and you have five Realtors walk through it, you’re gonna get five different numbers. There’s no one concrete number that you can walk through a home and be like that home is worth $2,015,462.73. It doesn’t work like that. And if you have five Realtors looking at your home, you might have $100,000 or it might be more if it’s a unique property. It’s difficult to understand how much a consumer is going to put a value on a certain aspect of your home. Let’s say a view. A view is a good one. Some consumers might think that view is worth $250,000. Others might not care about a view, and it’s worth zero or 10 grand or whatever, right?

Monica: It’s like anything. We go to two listing appointments all the time and we tell a seller a price and they’ve already heard a hilarious range of prices from other Realtors and these are usually Realtors that know what they’re talking about. Realtors that work in the industry that work in that specific neighborhood, and we can go into a listing appointment and hear “Well this guy told me this much and that guy told me that much” it can be pretty hilarious so, but that’s before market exposure. Once on market, it has some market exposure, we know exactly what it’s worth.