Definition
An appraisal is an independent, professional opinion of a property’s value as of a specific date. Appraisals are commonly required by lenders to confirm collateral value before approving a mortgage or refinance, and they are also used by investors to validate pricing, underwriting assumptions, and exit value.
Why It Matters
Appraisals influence loan-to-value (LTV), loan proceeds, and sometimes deal viability. If an appraisal comes in below the purchase price, the buyer may need to bring more equity, renegotiate, or walk away (depending on contract terms and financing contingencies).
Main Valuation Approaches
- Sales comparison approach: Values the property by comparing it to similar recently sold properties (comps), adjusted for differences.
- Income approach: Values the property based on its income-producing ability (common for rentals and commercial assets), often using capitalization and/or discounted cash flow concepts.
- Cost approach: Values the property based on replacement cost minus depreciation, plus land value (often used when comps are limited or for special-use properties).
Appraisals in Real Estate Investing
- Acquisitions: Supports (or challenges) the contract price and reduces “overpay†risk.
- Refinance: Determines proceeds and whether a cash-out refinance is feasible.
- Value-add projects: Can be ordered “subject to completion†using an assumed rehab scope and ARV logic.
- Commercial financing: Often paired with third-party reports (environmental, engineering, etc.).
Common Appraisal Outputs
- Opinion of value: A single value conclusion (sometimes with a range discussion).
- Comparable sales grid: Adjustments and rationale for comps used.
- Market conditions: Commentary on supply/demand, pricing trends, and days on market.
- Assumptions & limiting conditions: What the valuation relies on (and what it excludes).
Example
An investor agrees to buy a duplex for $600,000 with 75% LTV financing. The appraisal comes back at $570,000. If the lender sizes the loan to the lower of purchase price or appraised value, the maximum loan becomes $427,500 (75% × 570,000) instead of $450,000. The investor must bring the difference in additional equity, renegotiate the price, or change financing.
Common Pitfalls
- Assuming appraisal equals market value: It’s an informed opinion, not a guarantee of sale price.
- Weak or mismatched comps: Poor comp selection can materially skew the conclusion.
- Ignoring income approach for rentals: For income property, rent and expense assumptions matter.
- Not understanding “as-is†vs “subject toâ€: A rehab plan may require a different appraisal type.
- Over-relying on one number: Use appraisals as one data point alongside underwriting and market evidence.