Real Estate Appraisal: How Properties Are Valued
An appraisal can make or break a home sale. If the appraisal comes in $20K below the offer price, the buyer can't get a loan and the deal falls apart. Here's exactly how appraisers determine property value.
An appraisal is a professional opinion of a property's value, required by lenders for mortgage approval. It is not the same as a home inspection: an appraisal determines value, while an inspection checks condition. The lender orders the appraisal to ensure the property is worth the loan amount. If the appraisal comes in below the contract price, the buyer cannot borrow the full amount, and the deal must be renegotiated or canceled. See how appraisals fit into the home buying process →
Real-world example: Offer $350K on a home. Comps: a similar home 2 blocks away sold 3 months ago for $335K (1,800 sq ft, 3/2, updated kitchen). Another sold 2 months ago for $340K (1,750 sq ft, 3/2, original kitchen). Appraiser adjusts: +$5K for extra 50 sq ft, +$10K for updated kitchen. Indicated value: $345K-350K. Appraisal comes in at $348K. Loan based on $348K. Buyer must put extra $2K down or renegotiate.
The Three Approaches to Value
Sales Comparison Approach
This is the most common method for residential properties. The appraiser compares the subject property to recently sold similar properties, known as comps. Adjustments are made for differences in square footage, bedrooms, bathrooms, lot size, condition, location, and upgrades. The most weight is given to the most recent, closest, and most similar sales. This approach works best in active markets with plenty of comparable sales. Learn about the closing process after appraisal →
Cost Approach
The cost approach estimates value as land value plus the replacement cost of the building minus depreciation. It is commonly used for new construction, unique properties such as churches and schools, and insurance valuation. This approach is less accurate for older homes where depreciation is harder to measure and land values may have changed significantly since construction.
Income Approach
The income approach is used for rental and investment properties. Value is calculated by dividing net operating income (NOI) by the capitalization rate (cap rate). For example, $50K NOI divided by a 5% cap rate equals $1 million in value. This is the primary method for commercial real estate and multi-family properties. Explore real estate investing fundamentals →
What Appraisers Look At
Appraisers evaluate a wide range of factors: gross living area (GLA), bedroom and bathroom count, lot size, age, condition, upgrades (kitchen, bath, flooring, roof, HVAC), location including neighborhood and school district, proximity to amenities, recent sales and listings, and overall market conditions. The appraiser also walks through the property to verify its condition and take photos for the report. See how appraisals differ from inspections →
Common Appraisal Issues
Low Appraisal
A low appraisal occurs when the property appraises below the contract price. Solutions include the buyer paying the difference, the seller reducing the price, renegotiating terms, disputing the appraisal, ordering a second appraisal, or walking away if the contract has an appraisal contingency. The appraisal contingency is standard in purchase contracts and allows the buyer to exit with their earnest money returned if the property does not appraise at the contract price.
Appraisal Gap
In a rapidly rising market, comps may be stale and based on older, lower sales. This creates an appraisal gap where the agreed price exceeds what recent data supports. Buyers can offer appraisal gap coverage, agreeing to pay the difference between the appraised value and the contract price up to a specified amount. This makes an offer more competitive in a hot market.
What is the difference between an appraisal and a home inspection?
An appraisal determines the fair market value of a property and is required by the lender to ensure the loan amount does not exceed the property's worth. A home inspection evaluates the physical condition of the property, identifying defects, safety issues, and needed repairs. Lenders require an appraisal; buyers choose to get an inspection. You need both when buying a home, but they serve different purposes.
Can I challenge a low appraisal?
Yes. If you believe the appraisal is inaccurate, you can request a reconsideration of value from the lender. Submit additional comparable sales the appraiser may have missed, point out errors in the appraisal report (incorrect square footage, bedroom count, or condition), or provide evidence of recent upgrades. If the lender rejects the reconsideration, you can order a second appraisal at your own expense, typically $500-700. Some lenders allow a second appraisal, but the final decision belongs to the lender.
Who pays for the appraisal?
The buyer typically pays for the appraisal through closing costs, though the cost is often included in the loan application fees. The appraisal fee ranges from $500 to $700 for a standard single-family home. The appraisal is ordered by the lender to ensure impartiality, even though the buyer pays for it. In a refinance, the homeowner pays for the appraisal.
How long does an appraisal take?
The on-site inspection takes 15 to 45 minutes depending on the size and complexity of the property. The full appraisal process, from ordering to receiving the report, typically takes 3 to 10 business days. In a busy market or for complex properties, it can take longer. The appraiser spends additional time researching comps, making adjustments, and writing the report after the site visit.