There’s a simple reason why an appraisal is a crucial part of the process.
If you apply for a mortgage to buy a home or to refinance your current home loan, chances are high that your mortgage lender is going to require you to get an appraisal before approving you for the loan.
An appraisal is performed by a professional. The appraiser comes to your home, assesses its condition, and compares your property to recently sold ones in the area, making adjustments for the different features. The appraiser then provides an estimate of the home’s fair market value.
Appraisals cost money, and they can sometimes derail your ability to get approved for a loan — but they are an important part of the mortgage approval process. Here’s why.
There’s a simple reason mortgage lenders require an appraisal
Mortgage lenders require an appraisal before they will give you a loan because they need to make sure the home is valuable enough that it can guarantee the loan and the lender won’t lose money if you don’t pay the bills. Let’s take a look at how that works.
Homes are collateral for mortgage loans
Your home acts as collateral when you take out a mortgage, and the lender has an ownership interest in the property. If you fail to pay the mortgage bills as promised, the lender has an asset to sell — the home.
Because the home guarantees the loan, mortgage loans are secured loans — which is why the rates are lower than with many other kinds of debt. The risk of loss is lower for lenders. But, to ensure that the house acts as sufficient collateral, lenders set a maximum loan-to-value ratio. That’s the limit on the amount of money they are willing to loan you to a certain percentage of your home’s value.
For example, if you want the best and most competitive rate, the loan would need to equal 80% or less than what the home is worth on the open market. So, for a $250,000 home, the lender would be willing to loan you up to $200,000.
An appraisal determines loan-to-value ratio
Many lenders will make loans with a loan-to-value ratio higher than 80%. In fact, some will allow you to borrow as much as 97% of the value of the home. If you opt for a loan-to-value ratio that’s higher than 80%, though, you’ll usually have to pay an extra …….