How a Low Appraisal Cost me $14,000 on a Fix and Flip

gif;base64,R0lGODlhAQABAAAAACH5BAEKAAEALAAAAAABAAEAAAICTAEAOw== How a Low Appraisal Cost me $14,000 on a Fix and FlipToday I am selling a fix and flip property that should have made me a lot of money. I bought the house for $140,250 and had it under contract to sell for $222,500. Even though this houses was the cheapest property for sale in the town it was located it, the appraisal came in at $208,000. We did our best to help the appraiser come in at value, and we challenged the appraisal with the lender, but none of it did any good. Not only did the appraiser cost me over $14,000, but we found out during the buyer’s inspection that the sewer line needed to be replaced and that cost another $5,300. What should have been a profit of $35,000 turned into a profit of less than $20,000. It was not my best flip, but I still made money even with the problems that came up.

What is an appraisal and why do you need them?

95 percent of buyers who get a loan on a home will need an appraisal. The appraisal is a report completed by a licensed appraiser, which values a property. The bank who is lending the buyer’s money uses the appraisal to confirm a home is worth what the buyers are paying. When you are selling a house that is repaired, the highest and best use is to sell it to an owner occupied buyer. I usually flip houses in the lower price range in our market, and that means most of the buyers I deal with need a loan. On almost all of the flips we sell, the buyer will have to get an appraisal and usually we have no problems. Investors may need to get an appraisal as well if they are getting a loan. The only way to avoid an appraisal is to sell to someone who is paying cash. Usually cash buyers want to get a discount on the properties they are buying so it makes sense to deal with appraisals.

Not only did this flip have the value come in $14,000 less than the contract price, I sold another flip last week that had the appraisal come in $ 13,000 less than the contract price. Luckily on that deal we were able to get the appraiser to raise his value $5,000.

Here is an article with much more information on appraisals.

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How can a low appraisal cost the seller money?

The bank will base their loan amount on the lower of the appraised value or purchase price. If the purchase price is $200,000 and the bank will lend 80 percent of the value, the loan amount would be $160,000. However, if the appraisal came in at $190,000, the loan would only be 80 percent of $190,000, which would be $152,000. The buyer would have to bring $8,000 more in cash if they still wanted to buy the house for $200,000. When the buyer is putting more money down, it is easier for the seller to work with the buyer to fix the appraisal problem. In the situation above, the buyer could make the price $192,000 and still pay the same amount of cash. Usually a buyer who is putting more money down has extra cash and could raise the price even higher. The buyer might be able to pay $195,000, which is still less than they were will to pay, but they would have to bring more cash than they originally planned.

It is tougher to get a higher price from low-down payment loans. If the buyer is only putting 3.5 percent down, the loan amount would be $195,000 on a $200,000 value. If the appraisal came in at $190,000, the loan amount would be $185,250. In this low-down payment scenario, the buyer would have to bring almost $10,000 more to closing because of the low appraisal, and usually buyers who put less money down do not have extra cash. The only option for the seller is to lower the price or put the home back on the market.

How to invest in real estate with little money down.

Why didn’t I put this house back on the market and go for a new buyer?

$14,000 is a lot of money to leave on the table, but I decided to lower the price and continue with the sale. There are a number of factors I considered when deciding whether I should put this home back on the market:

  • The buyers were using an FHA USDA loan, which meant they put no money down. Because it was an FHA loan, if I sold to any other FHA buyers in the next 6 months they would also use the same low appraised value. I would have to sell the house to a conventional buyer, which shrinks my buyer pool.
  • When you put a home back on the market, buyers wonder what happened. I would have to tell buyers that the appraisal came in low, and even if the low value did not bother buyers, they would have to worry about their appraisal coming in low as well. The low appraisal could cause me to get a lower offer price if I put the home back on the market.
  • By cancelling this contract and trying to find a new buyer, I would have to hold the property at least one more month and most likely longer. It costs quite a bit of money to hold flips since I have to pay taxes, insurance, and mortgage payments. With my financing on this property it would cost me about $1,500 a month to hold it.
  • I had 19 flips going at once when this happened, and I have to sell houses quickly to handle that many properties. If I only had one flip I was working on, I might try to get a new buyer, but for me I wanted to sell this house and focus on other projects.

There is a chance I could have made more money by putting the home back on the market, but there is also a chance I would not. I would have to find a conventional buyer, who was not bothered by the low appraisal, and who offered enough to make up for the carrying costs. It made more sense for me to sell the house faster and not risk the time it would take to find a new buyer.

How to sell a house for the most money.

Why didn’t I challenge the appraisal?

We tried to challenge the appraisal, but the appraiser would not budge on his price. You have to ask the lender to challenge the appraisal, and they need a good reason to make the request. They also require more comparable properties to present to the appraiser that were not used in the original report. One problem with this property was that it was in a small town and there were few sold comparable properties available. The appraiser used 5 sold comps and all of them had sold over 5 months prior to the appraisal. In Colorado we have one of the highest appreciating markets in the country and prices change fast in 5 months. Prices in the area have been rising 10 to 20 percent a year.

Unfortunately this appraiser said we were in a stable market and did not make any adjustments for using old comps. We tried to argue that fact, provided three new comps that were not used, and hoped the appraiser would come up in value. He did not. He said the comps we sent could not be used because they had basements and the property we were selling did not have a basement (I guess it did not matter that two of the comps he used had basements). He did not even provide an answer to why he said we were in a stable market.

How to challenge or prevent a low appraisal?

How much money did we make on this house?

In the end I was able to get the buyer to contribute $1,000 more in cash, so the appraisal cost me $13,500. The sewer line was supposed to cost $7,000 to replace, but our bill actually came in lower at $5,300. Here are the expenses and profit:

Purchase price:                         $140,250

Repairs:                                      $32,000

Carrying and selling costs:     $18,000

Sewer line:                                 $5,300

Selling price:                             $209,000 (after buyer brought $1,000 more in cash)

Total profit:                               $13,450

Here are before and after videos of the property:

Since I am an agent I also made a 3 percent commission ($4,207) when I bought the house so my total profit was: $17,657. I would have made almost $36,000 if the appraisal and septic issues did not come up. When you are flipping houses there are always problems and unknowns. That is why I try to make at least $35,000 on every flip I do, if not more. You can see the progress on all of my other flips here: Fix and Flip Property scoreboard.

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