Valuations are a measure of
the bank’s appetite for risk
If the lender agrees to an 80% LVR on a $500,000 purchase price, the borrower is hoping to borrow $400,000. But if the valuation, ordered by the bank, comes back at $475,000, then the bank will only lend 80% of that lower figure, or $380,000. The buyer must make up the difference, either, contributing more cash (an extra $20K) or by using more available equity from an existing property. Or the bank may agree to a higher LVR and charge the borrower Loan Mortgage Insurance (LMI)
There are several logical reasons why a valuation may vary from the contract price.
Valuations are a measure of the bank’s appetite for risk, which varies over time.
Bank valuations are inherently conservative and vary widely. It is wise to prepare for some variation in the valuation from the contract price.
Valuations are very much an ‘inexact science’ at the best of times, and they are heavily dependent on individual expertise and opinion.
The Valuer’s source of information for the valuation report, is recent data based on actual sale prices in the area (from a sales database), sometimes talking to local real estate agents and general local area research. A Valuer’s report contains an element of personal opinion when deciding on the valuation figure.
The Valuer carries personal indemnity insurance to safeguard the results of their assumptions.
The Valuer is liable to be sued by the lender if :
- A foreclosure and forced sale occur, and a lower than the valuation report price is achieved.
- The bank cannot retrieve sufficient funds from the forced sale to clear the loan and associated costs of recovering those funds.
The lender is relying on the Valuer’s report when advancing the funds to the borrower, therefore
Valuers tend to be very conservative.
The bank’s reasoning for the type of instruction to the Valuer is to hedge the lender’s risk.
Lenders are in the business of selling money while minimizing risk.
Focus on risk minimization has been intensified since the Global Credit Crisis.
Valuations are typically done on a comparative analysis basis – looking at similar properties that have sold within a specified radius within the last few months.
They can be ‘drive-bys’ or a ‘desk valuation’, usually only when the requested LVR is relatively low.
The problem with the comparative method is that resales in the area, including much older homes in older parts of the suburb, are used to make comparisons.
There is a premium to be paid for a brand-new property; owners are guaranteed consistency in quality and standard of housing and streetscapes, and they won’t end up next door to an ‘eyesore’!
Understanding the difference between lender’s valuations and their purpose and market appraisals should help to alleviate any anxiety caused as a result of an assessment of the property’s value coming in lower than the Vendor’s asking price.
It does not necessarily reflect the actual value of the purchase value.
This is also the reason why banks will not release a copy of the valuation report to the client as it is purely for the bank’s risk minimization purposes.