How Lenders Determine Appraised Value for Renovation Loans
How much is your home really worth? It’s an important question, whether you’re looking to sell, refinance your existing loan, or take out a renovation loan. Your home serves as the collateral for a mortgage loan, and most lenders require an appraisal to support the value of the associated property. The appraised value of your home is based on the current market value of similar homes in your community—called comparables or comps.
Identifying Comparable Homes for Appraisals
If you’ve been paying attention, you may already have an idea of local real estate prices. Appraisers look for homes that are similar to yours in design, size, and bedroom/bath count. Sale prices of these comparable homes are a good indication of what your home is worth.
Typically, in a suburban setting, an appraiser finds the five or six most similar homes within a one-mile radius of the subject property that have had real estate market activity during the past six months. At least three of the sales must have successfully closed, while the others may still be on the market or pending sale.
But even homes of similar size and room count aren’t exact comparisons. Licensed appraisers use a set of standardized guidelines to select which homes are best suited as comps and how to apply any adjustments to refine the valuation for each of the comparable properties. Adjustments are made for differences such as:
- Square footage
- Lot size
- Room count
After tallying the adjustments, the appraiser uses these figures to determine the current market value of the subject home.
Renovation Loan Appraisals
What if the borrowers wish to remodel their home, but cannot get an appraisal that supports the current loan amount plus the cost of the project? The solution often can be found in a renovation loan. Rather than basing the appraised value and subsequent loan amount on the current market value, the appraiser determines the expected value of the home once the project is completed. In the residential lending industry, this type of valuation is called “as-complete” rather than “as-is”.
Project costs have little direct correlation with the as-complete valuation of a home. The major difference in a renovation loan appraisal is in the selection of comparable homes. With a renovation loan, comps are selected because they are similar to what the subject property will become after renovation.
For example, let’s say the current property is a two-story, 1,800-square-foot, three-bedroom, 1.5-bath home. The planned renovation includes a 400-square-foot master bedroom suite addition. For a renovation loan, the appraiser would look for comparable homes that were close to 2,200 square feet with four bedrooms and 2.5 baths.
Generally speaking, your lender will hire an independent licensed appraiser to complete the appraisal report. Each state has specific certification requirements for appraisers. In the greater Chicago area and throughout the State of Illinois, the appraisal industry is overseen by the Illinois Department of Financial & Professional Regulation. These licensed professionals are charged with protecting the bank’s investment, which in turn helps protect yours.