In today's Real Estate Market in Florida we often run into problems with a property not appraising at contract price. There are many reasons for this but the most common one is prices in Florida, particularly in Key West and The Florida Keys are going up so fast that the contract prices are well above the most recent like type homes that have sold. You will often hear the Realtors, Appraisers and even Lenders use the term "Comps". Comps is an industry term for like type houses in the general area of the house that is being appraised. The house being appraised is often called the "Subject", another common industry term. When the sale prices of the Comps are lower than the contract price on the Subject, the appraisal will often come in lower than the contract price which creates a problem obtaining a mortgage. That is where an "Appraisal Gap" comes into play.
What is an Appraisal Gap? An appraisal gap is a predetermined amount of money agreed upon by the buyer and seller that the buyer will pay more for the house than the appraised price without effecting the loan amount. This predetermined amount is added to the buyers "Cash To Close" which is how much money the buyer needs to close after his/her downpayment is received and the mortgage is funded. In a short answer, an Appraisal Gap is the amount of money the buyer is willing to pay above the appraised value of the property.
Should you use an Appraisal Gap in a contract? You can ask 100 different Realtors and you will get 100 different opinions. My opinion is no. I do not like Appraisal Gaps. In my opinion, they just lead to more problems with the mortgage. Also, at the end of the day, the mortgage underwriter can always kill the loan because the property didn't appraise at contract value. The Florida Realtors Association does not approve of Appraisal Gaps and does not even offer a contract page or addendum to add one into the contract. That is a pretty clear message that the Florida Realtors Association is against Appraisal Gaps. There are addendums, supported by the Florida Realtors Association for just about everything but not for an Appraisal Gap. I would approach the Appraiser with more comps showing a closed sale price at or above the contract price of the subject before I would use an appraisal gap. *As a side note, I attend the appraisals on my contracts whenever possible and I come armed with as many comps that closed at or above the subject contract price as I can find. Then the appraiser has them before he/she performs the appraisal.
When should you use an appraisal gap? My suggestion is never but there are some very rare contracts where one is a necessary evil. The one and only time I put an appraisal gap into one of my contracts was when two different factors were in place: 1) The listing agent informed me that the seller instructed her to not accept any offer that did not have an Appraisal Gap included. 2) The subject was the only property that the buyer could afford in the area where she wanted to buy. She was adamant that she wanted that property and was willing to pay more if she had to. I also required the buyer to sign a document that I still have in her file stating that she was advised by her Agent, me, not to add an Appraisal Gap into the contract and she chose to do it against my advice.