Recently, I came across an NREB Premium article about appraisal gaps that really got me thinking.
One point in particular stood out to me: the importance of addressing appraisal risk before it becomes an issue.
That idea strongly resonates with my own approach to real estate. When preparing an offer, I believe the conversation shouldn’t stop at:
“How much should we offer for this home?”
It should also ask:
“What happens if the appraisal doesn’t support our offer price?”
First, What Is an Appraisal Gap?
Let’s walk through an example.
Suppose you enter into a contract to purchase a home for $685,000.
The buyer plans to make a 10% down payment and finance the remaining $616,500 with a mortgage.
The inspection is completed, the mortgage process is underway, and the lender orders the appraisal.
The appraisal comes back at:
$665,000
That creates a $20,000 difference between the contract price and the appraised value.
That difference is what we call an appraisal gap.
But what does that $20,000 gap actually mean for the buyer?
Does a $20,000 Appraisal Gap Mean $20,000 More in Cash?
Not necessarily.
In a financed transaction, the lender generally calculates the loan-to-value ratio using the lower of the purchase price or the appraised value.
Here was the original plan:
Purchase price: $685,000
Down payment (10%): $68,500
Planned mortgage: $616,500
Now the appraisal comes in at $665,000.
If the buyer’s loan needs to remain at 90% LTV (Loan-to-Value), the lender will no longer calculate the maximum loan based on $685,000. It will be based on the $665,000 appraised value.
90% of $665,000 is:
$598,500
To complete the purchase at the original $685,000 contract price, the buyer would now need to bring:
$86,500 in cash.
Originally, the buyer planned to bring $68,500.
That means the buyer would need:
An additional $18,000 in cash.
There is an important distinction here.
The appraisal gap is $20,000, but in this example, the buyer’s additional cash requirement is $18,000.
Why?
Because the buyer was already planning to contribute 10% of the purchase price. The $20,000 reduction in appraised value affects the 90% financed portion of the transaction, which equals $18,000.
However, this does not mean every mortgage or every buyer will have the same outcome.
Depending on the loan program and the buyer’s financial qualifications, a higher LTV may be possible. In some cases, part or all of the originally planned loan amount may still be available, although mortgage insurance, pricing, reserves, or other loan terms could change.
That is why, when a low appraisal comes in, my first move would not be to immediately start negotiating over:
“Who is going to pay the difference?”
My first call would be to the loan officer to understand the updated numbers.
Once we know how the appraisal actually affects the financing, we can make a much better decision about what comes next.
What Can Happen When an Appraisal Comes In Low?
There isn’t just one answer.
The buyer may contribute additional cash.
The seller may agree to reduce the purchase price.
The buyer and seller may negotiate and share some of the difference.
The loan structure may be reevaluated.
And, depending on how the contract is written and the contingencies it contains, the parties may have other options as well.
But for me, the most important part of this conversation actually begins before the appraisal — when the offer is being prepared.
Can an Appraisal Gap Be Addressed When Writing the Offer?
Especially in a competitive market, discussing the possibility of a low appraisal while preparing an offer can be an important strategy.
For example, a buyer might take the following approach:
“If the property appraises below the contract price, I am willing to cover up to $7,500 of the difference.”
This type of approach is commonly referred to as a capped appraisal gap.
It can show the seller that the buyer is willing to stand behind the offer while also preventing the buyer’s financial exposure from becoming open-ended.
After all, an appraisal that comes in $5,000 low and one that comes in $30,000 low represent very different levels of risk.
There is one point I want to emphasize:
I don’t believe appraisal gap coverage should automatically be used in every transaction.
Every property has different comparable sales.
Every market has different conditions.
Every buyer has a different financing structure and tolerance for risk.
To me, the goal isn’t necessarily to agree to cover an appraisal gap.
The goal is to discuss the possibility while preparing the offer and understand what it could mean before making that commitment.
Why Does the Appraisal Matter to the Seller?
An appraisal isn’t only a buyer-side concern.
For a seller, the highest offer isn’t always necessarily the strongest offer.
Imagine a home receives multiple offers.
One buyer offers $700,000.
Another offers $690,000.
At first glance, the $700,000 offer clearly looks better.
But what if recent comparable sales support values closer to $670,000–$680,000, and the $700,000 offer doesn’t include a strong strategy for dealing with a potential appraisal shortfall?
That higher offer could eventually turn into another negotiation once the appraisal comes in.
That is why, when evaluating offers from the listing side, I wouldn’t only ask:
“Which offer is the highest?”
I would also ask:
“Which offer has the strongest likelihood of making it to closing?”
Because if a transaction falls apart due to a low appraisal, putting the property back on the market doesn’t necessarily make the appraisal issue disappear.
The next appraiser may be looking at many of the same recent comparable sales.
My Perspective on Appraisal Gaps
The Realtor, buyer, and seller cannot control the final appraisal result.
But we can evaluate the possibility of a low appraisal before it happens.
We can review comparable sales.
We can consider how well the offer price is supported by current market data.
We can discuss the buyer’s financing and potential additional cash requirements.
And, when appropriate, we can develop an appraisal-gap strategy before submitting the offer.
That is why my approach is simple:
We can’t control the appraisal result. But we can talk about what we’ll do if the result isn’t what we expected.
A good real estate strategy isn’t only about finding the right price.
It is also about identifying the risks along the way before they become problems.
Because sometimes the best negotiation isn’t the one that happens after a problem appears.
It’s the one that happens before the problem exists.
NazNest_Realtor | South Florida Real Estate
Location • Lifestyle • Logic
This article is provided for general informational purposes only. Mortgage programs, appraisal requirements, financing terms, and contractual rights may vary depending on the specifics of each transaction. Buyers and sellers should consult their lender or loan officer regarding financing and, when appropriate, a qualified professional regarding contractual or legal matters.
