Parker Jones has been a San Francisco home appraiser for 25 years, and he’s never seen a market quite like this one. This spring, some single-family home prices are 20% higher than they were just last fall, making his job of determining a property’s value for banks writing mortgages much more challenging.
When the market rises this high, this quickly, appraisers have a few tricks up their sleeves to scrounge up valid data points, like quizzing agents of pending nearby properties. But even then, it can be difficult.
“We try our best to support those prices,” Jones said. “Sometimes there is just zero data to work with.”
When the appraisal cannot justify the sale price, the deal can be thrown into jeopardy. Either the seller has to lower the contracted price, or the buyer has to put in more cash (or, typically, some combination of the two) to make up the difference between the appraised value the bank will lend on and the price the buyer and seller have agreed upon. Sometimes buyers walk away from their dream homes — and hefty deposits — rather than close the gap.
The added uncertainty means that buyers who can’t pay cash in this heated market are at a disadvantage because they are tied to the appraised value of a property — not what they are willing to pay.
Ruth Krishnan of Compass is working with a buyer who has a $3 million budget and is on the hunt for a Pacific Heights condo. He has solid credit and a pre-approved loan but can’t pay all cash. He’s lost out twice to lower, all-cash offers.
In some cases, buyers are taking out a loan against other assets to have cash on hand, then refinancing into a traditional mortgage post-sale.
“When the market is going up and the house may not appraise, it’s very much on sellers’ minds,” Krishnan said. “You need that all-cash offer to be competitive.”
The right to overpay
Jones said that using a local appraiser makes a huge difference when the market is at an inflection point, as it is now. Appraisers need to have a close working relationship with active agents so they can learn the backstory of the deal, such as how many other offers were close to the winning offer, which may be the only relevant data points they have to prove a home’s worth and save the sale.
“If you are not reaching out to understand from a Realtor what’s happening in the market, you can be blinded and just truly not be on top of a quickly changing market,” he said. “Then your appraisal report will reflect that.”
Even after scouring every data point and interrogating agents, a sale price may turn out to be unjustified, especially given San Francisco’s underpricing strategy, in which buyers are pitted against one another to beat out ever-higher offers. People’s egos and emotions can get in the way if they make it to the final round of bidding in a heated competition; they’ll sometimes pay over market value just to win. In those cases, it shouldn’t be the bank that takes the risk, Jones said.
The appraisal uncertainty has made all-cash offers even more attractive.
“It really has to be the buyer, if they’re going to punch up this high, putting down enough cash to make this deal work at that price,” he said.
Jones was brought in to appraise a recent sale in which the highest offer was $300,000 more than the second-highest. If the winning buyer had been paying all cash, they would have had the right to overpay. But in this case, the buyer had a loan, and Jones had an obligation to give the lender all the details.
“That’s why the system is in place,” he said. “That’s why we have appraisals.”
What happened after that, Jones does not know, as his job ends after the appraisal is submitted to the lender. But agents say that when an appraised value falls short, buyers and sellers often negotiate to make up the difference or switch lenders to salvage the deal.
Krishnan recalled four deals that were not appraised at their contracted values so far this year; one fell apart after the appraisal came in $150,000 lower than the agreed-upon sale price. The buyers had the money, but they had planned to use it to update the home. They walked away from their $50,000 deposit rather than live somewhere they could not afford to renovate for the foreseeable future. The other three sales Krishnan recalled moved forward after negotiating new deals that all parties, including the bank, could live with.
Setting expectations in advance is a big help, so if an appraisal falls through, the buyer isn’t taken by surprise. That doesn’t mean it’s easy for buyers to hear that the data doesn’t support what they agreed to pay for a home.
“We always tell buyers, ‘This may not appraise, and when it doesn’t, it’s going to feel like shit, so just get ready,’” Krishnan said.
City Real Estate agent Shalini Sadda said she routinely talks to her clients about what could happen if the appraisal comes in below the accepted offer. That preparation came in handy this year when a condo her clients were in contract on failed to appraise. The buyer was ready to put down extra cash, and the deal went through.
“The comps don’t really mean too much,” she said, when sales from just three months ago feel woefully out of date. “You really have to help buyers understand and navigate the market. That will set everyone up for success.”
As long as buyers understand that they are paying more than the current data can justify, it’s all systems go. Those who are exhausted from touring, bidding, and losing out may see value in paying top dollar just to be done with the process and move into their new home. Plus, if they’re planning on holding onto the property long-term, they’re still likely to come out ahead, Sadda said.
“It’s a trade-off between, ‘OK, we found a house we loved, we paid a little bit more, and we’ll just wait it out,’” she said.
The end is near
The further into the spring market, the less likely appraisals will be an issue. Banks typically like to see five comparable sales to feel comfortable moving forward with a loan, which means the first deals of the season are the hardest to get appraised. By the time May rolls around, there should be plenty of sales at the new, higher price points to justify most loans.
That’s exactly what happened the last time prices skyrocketed, during the pandemic, when interest rates fell below 3%. After a few months, the data caught up to the market, and it became a nonissue. Plus, interest rates are higher this time around, and with the nascent war in Iran driving up fuel prices and generating global uncertainty, there could be a pause on home prices that even San Francisco’s expected flood of AI millionaires will not be able to overcome.
“I don’t think the momentum for San Francisco is going to stop anytime soon,” Parker said. “But there are still some real economic factors that are going to keep prices from going up and up and up nonstop for the rest of the year.”