What Is an Appraisal Contingency? Understanding This Real Estate Contract Provision

Buying and selling a home isn’t as straightforward as, say, buying your groceries or shopping on Amazon. Part of the complexity of real estate transactions is that they can involve contingencies — conditions that parties add to an agreement that have to be met before the deal can be finalized. In particular, you may be wondering: what is an appraisal contingency, and why is it important?

Generally, an appraisal contingency protects a buyer when a home they’ve made an offer on appraises for less than the amount the buyer offered to pay. Appraisal contingencies are just one type of contingency. Other types include a sales contingency, financing contingency, and inspection contingency.

First, what is an appraisal?

A home appraisal is a professional determination of a home’s value. A licensed appraiser, who is trained in the field, will evaluate a house and take several factors into consideration when calculating appraised value. They will likely look into comparable homes (or comps), the size of the lot, new upgrades, and the location. After appraisal, the buyer should receive an appraisal report in about a week.

Banks and mortgage lenders use the appraised value to determine the highest mortgage amount they are willing to loan a borrower, to ensure that they are not financing an overvalued asset.

Special situations

All-cash buyers will not have to get an appraisal since there is no mortgage lender involved, although they can opt to coordinate for one. Additionally, buyers with FHA and VA loans are required to get an appraisal, which must meet certain standards set by the government.

Appraisal example

Let’s say a house lists for $200,000, but in a hot market, the seller accepts an offer of $300,000. However, the appraised value comes in at $250,000. That creates a $50,000 overage — or appraisal gap — that the lender will not provide funds for. To move the deal forward, the seller and buyer will need to renegotiate.

In this event, the buyer can increase the amount of money they put down, the seller can reduce the price, or the parties can meet somewhere in the middle. The appraisal contingency allows the buyer to exit the contract and receive their earnest money should the home not appraise or if the seller won’t agree to a new arrangement. Without an appraisal contingency, the buyer could still walk away but would likely sacrifice their earnest money in the process.