Home buyers who know what they want and are ready to act quickly should know what valuation gap coverage If they want to secure their dream home. Often, this means making an offer that exceeds the purchase price of the property and may even exceed the home’s appraised value.
What is Valuation Gap Coverage?
To accept an offer, home buyers may have to go higher than the asking price. But when an offer is made on a property above the asking price, it may exceed what the bank appraised the home for.
For example, let’s say a home is listed for $100,000 and goes under contract for a sales price of $110,000. However, the appraisal only comes in at $105,000. Your mortgage lender will not cover the appraisal difference for you. In this scenario, the buyer would have to pay an additional $5,000 plus cash to seal the deal, persuade the seller to accept the new purchase price of $105,000, or walk away from the deal.
Sellers fear the latter option, so they prefer to see a guaranteed offer at the asking price if valuation comes in low. Sellers want to be sure that the buyer will come up with some money to cover the difference between the appraisal and the offer.
This is called appraisal gap coverage. This is insurance for the seller that the buyer pays an additional amount over the appraised value of the home if the appraisal comes in below the agreed-upon purchase price.
To modify the previous example, let’s say the home is listed for $100,000. The buyer provides $1,000 of appraisal gap coverage with $110,000, and the home appraises at $105,000. Appraisal gap coverage is now triggered, the buyer comes in with $1,000 in cash, and the new purchase price is $106,000. The buyer has to pay the seller $1,000 in cash because the lender will not include appraisal gap coverage in the home loan.
If a seller is looking at two identical offers and one offer has valuation gap coverage but the other does not, they will accept the valuation gap coverage offer. Plus, in this scenario, the buyer gets the home for less than they initially planned to buy it for, so it’s a win-win!
When is Valuation Gap Coverage Necessary?
In a market where buyers outnumber sellers, offers can get insane. This is a problem for a seller because the best offer they can make is to withdraw the property appraisal well under the sale price.
If this happens, both buyer and seller will need to agree on what the home will be worth and/or who will pay the difference between the offer price and the appraisal. Therefore, a seller should include an appraisal difference guarantee clause in the contract so that they can feel confident in taking the highest offer, even if they are concerned that the appraisal will not support it.
Tackling the Valuation Gap
Appraisal gaps are common in seller’s markets, but there are a few ways to deal with the issue. Either the buyer or the seller can request a review of the appraisal. consider the reasons home appraisal Came down and decided if it was really worth the selling price. The buyer and seller can then decide between these two options:
pay the difference
really i hot real estate market, a buyer may decide that they want to pay cash for the difference between the appraisal and purchase price. Of course, this means they’ll have to put up money on their own to pay off this appraisal difference, but they may feel the home is worth it. They may also be willing to pay the difference when other homes are selling faster, and they may be worried about missing out on the deal.
renegotiate
Another option for buyers and sellers is to renegotiate the real estate deal. If the appraisal difference is too large or the buyer cannot come up with the money to cover the difference, it may be appropriate for both parties to agree on a new purchase price. A seller must decide how little they are willing to accept to ensure their no assets left Even in a hot housing market.
How does valuation gap coverage work with Proposition?
Valuation gap coverage strengthens buyer’s offers in any market. That said, it is almost always used in a market with high demand, where the buyer needs to encourage the seller to take their offer.
For example, let’s say a couple looking to buy a two-bedroom condo in downtown Denver listed for $385,000 has offers pouring in from all over. They know they need to come out strong with a serious offer. They decide to make an offer for $415,000 with an appraisal gap coverage of $5,000. Hypothetically, let’s say the property is appraised at $400,000.
An offer for $415,000 (without appraisal gap coverage) would mean the lender would only secure a loan for $400,000. There is now a $15,000 difference between what the seller thought they could get and the loan. Now everyone has to negotiate afresh. Will they split the $15,000? Will they lose the contract? Nobody wants that because paperwork is required to buy or sell a home, so sellers really don’t want to be in this position.
An offer for $415,000 on a home appraised for $400,000 with $5,000 in appraisal gap coverage means the buyer is securing the appraisal plus $5,000. So, in this case, if the buyer offered $415,000 and it came back at $400,000, they are guaranteeing that they will pay at least $405,000. The offer is strong because the seller knows they will get the appraisal and $5,000 even if the market doesn’t support this price.
A bank loan will not support this sale price, so the buyer needs to be sure they have the cash to cover it. If they offered $5,000 appraisal gap coverage and the appraiser says the property is underpriced, the buyer would have to come to the closing table with $5,000 in cash.
It is a great tool to help an offer stand out in a competitive market, but it should not be confused with valuation contingency.
Valuation Gap Coverage vs Valuation Contingency
An appraisal contingency clause in a real estate contract defines a condition or action that must be met for the contract of sale to become binding. Both parties – buyer and seller – must agree to the terms and sign a sales contract, including contingencies, to make it binding.
These added clauses enable investors to acquire property Offer a way out of the contract on their terms and if things go south. However, since a real estate contract is binding, buyers must understand how to use them and how to stay competitive when making offers.
An appraisal contingency clause ensures that the purchase is dependent on the findings of an appraisal. Generally, the buyer is simply making sure the home is worth or hopefully worth more than the seller is saying.
Contingency basically says either:
- The appraisal on the property is at least as high as the purchase price. Otherwise, the buyer may back out of the deal; Or
- If the appraisal on the property is less than the purchase price, the buyer can ask the seller to lower the price, and if the seller refuses, the buyer can back out of the deal.
Appraisal contingency often goes hand in hand with financing contingency, as the lender will not make a loan above the appraised value.
one of the following Benefits of Valuation Gap Coverage is that it helps buyers stand out, and that it doubles as protection from potentially overpaying for a property. Either way, it will help increase the chances of an offer being accepted and should always be considered when shopping for real estate.
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Note by BiggerPockets: These are the views expressed by the author and do not necessarily represent the views of BigPockets.
