Understanding Appraisals and Approvals
Am I guaranteed to get a mortgage?
No, you will need to get approved for one, which comes in different stages. It is recommended that you seek pre-approval before finding a house, so that you may look for properties that are better suited for you.
Is a pre-approval the same thing as a pre-qualification?
No. Although they sound very similar, they actually have two different functions. A pre-qualification comes before a pre-approval. It is based on very basic financial information and not on your detailed credit score. A pre-qualification gives you the big picture of what to expect with your loan application and is in no way a guarantee of a loan.
Ok, so what's a pre-approval?
A pre-approval is the next step. It's based on a mortgage application, your credit score and detailed financial history. From this information, the lender will be able to determine the mortgage amount they are willing to lend you; in other words, they determine what you can afford.
So that's it? A pre-approval means I'm getting the money?
Not so fast! There's still another critical step in this process: the real estate appraisal.
What is a real estate appraisal?
A real estate appraisal is a detailed evaluation of the subject property (the home you're wanting to buy). This evaluation determines the Fair Market Value (FMV) of the property.
But some say, "the value is whatever you're willing to pay for it."
Sure, that can determine the value for the buyer, but the lender will want to know what it can sell for on the open market. In other words, it is in the lender's interest to determine the Fair Market Value of the property.
Who orders the appraisal?
The real estate appraisal will be ordered by a loan officer at a bank or by a mortgage broker (intended to be used by the loan officer).
When are appraisals required?
Appraisals may be required when a new mortgage loan or refinancing is needed. An appraisal may also be required when requesting a line of credit or a loan for renovations.
What kinds of things will the appraiser look at?
In a complete real estate appraisal, the appraiser can look at many factors, including, but not limited to: market trends, comparable sales, external factors (neighbourhood, zoning, lot, utilities, environmental hazards) and internal factors (layout, square footage, number of bedrooms, structure, home improvements, upgrades, damages, structural hazards, mould, building materials) of the house.
Upgrades? So, will my new microwave increase the value of my house?
Not for an appraiser. The appraiser doesn't look for additions that are considered moveable or decorative. Although these can entice your buyer and serve as marketable features in your negotiations, they are considered personal belongings in a real estate appraisal.
Ok, I get what a real estate appraisal is, but can you tell me why it's used?
The main purpose of appraisals is risk mitigation for the lending institutions. In knowing the FMV of a property, the lender can determine a loan amount that they are confident they could win back if the borrower were to default on their payment (fail to make the payments in time). Essentially, they are learning what the property is truly worth.
Think about it this way, if the lending institution keeps lending more money than what it gets back, it will find itself in a situation of financial debt or crisis.
How do we know appraisers are providing an unbiased value?
Appraisals are governed by the Appraisal Institute, which holds them to Uniform Standards of Professional Appraisal Practice (USPAP). In other words, they have to abide by certain rules when assessing the value of a property. To appraise a property, an appraiser must have the adequate license for that property type, which requires education and training. In addition to their training, appraisers must provide specific information on their appraisal reports to lenders, ensuring their reports meet the required standards.
Does the appraisal report get sent to me once complete?
No, the report belongs to the lending institution even when you’re the one who pays for it. You may request a copy from your lender or broker but the decision to provide authorization will be the lender's.
One last thing: how does this affect my mortgage loan?
We've come full circle. In addition to determining what loan amount you can afford and are able to pay back based on the factors described above, the lending institution will also factor in the FMV of the property before approving the loan amount. Ultimately, the combination of your financial eligibility and the FMV of the property will determine the loan you receive from the lender.