SUBJECT TO APPRAISAL

There are various types of real estate appraisals an investor needs from time to time. Today, we will be discussing “Subject To” appraisals.

What is a “Subject to” appraisal?

“Subject to” appraisals are sometimes referred to as after-repair value, ARV, appraisals. This is because the value of the appraisal is given as if the repairs have been made on the property. This is a hypothetical condition or future value appraisal because the value is rendered for some time in the future once these conditions have been met. Why get “Subject to” appraisals & who needs them?

“Subject to” appraisals are most commonly used by rehabbers and developers seeking Hard Money or Rehabilitation loans that provide acquisition and renovation cost. Simply, a lender gives the investor enough money to purchase a property and repair it, all in one loan.

The typical “Rehab Loan” provides 60% - 85% of the after-repair value of the property depending on the lender's requirements. For example, I appraise for a rehab lender that offers 70% Loan to Value (LTV) on the ARV of the property.

Breakdown: Suppose the ARV on a property is $200,000. As long as you can purchase and repair this property for $140,000 or less, they would lend you the money for this project. $200,000 x 70% = $140,000. The $60,000 spread represents the lender’s risk tolerance for borrowed funds and the potential profit margin for the borrower.

The ARV of a property is determined via a “subject to” appraisal. There are not many surface differences between a “subject to” appraisal and a typical “as-is” appraisal, where the property is appraised as it appears in its current condition. You should expect to pay a little more than a normal appraisal due to the different requirements and time sensitivity involved in a rehab loan.

The Inspection: There isn't much difference in comparison to a normal “as-is” inspection. The appraiser will measure the exterior of the property, take pictures, and note the property's environment and amenities. Inside is where the differences will be noticed. The appraiser is not concerned with the current condition of the property. Although interior pictures will be taken, the “subject to” appraisal is based on the hypothetical condition of the property being repaired. This is done via a repair list.

The Repair List: The repair list is the heart and soul of a “subject to” appraisal report. The appraisal cannot be completed unless the repair list is completed by the borrower and submitted to the appraiser. This list will be reproduced and inserted into the appraisal to document the hypothetical improvements on which the future value of the property will be based.

The appraiser will use this list to complete the appraisal report. For example, say a property has vinyl tile in the kitchen and bath. The appraiser will ignore the current materials and use what is in the repair list which says that ceramic tile will be placed in the kitchen and bath. Don't get intimidated by the thought of generating a repair list. The more detailed the better, but you don't have to break everything down by unit cost. A laundry list similar to the one displayed in Figure 1 will suffice.

The purpose of the repair list is to inform the appraiser and the interested parties to the scope of work to be completed on the property, the materials list, and the total cost of the project.

The specific layout and design functions of your project will be sought out by the appraiser during the inspection and interview process where the appraiser will ask questions on layout, materials, and design. (If the project is new construction, the plans are required.)

The Comps: Comparable properties help the appraiser determine and justify market value. In the “subject to” appraisal, the comparables will be selected as if the repairs in the repair list were completed. If the property would be a total gut rehab and the comps selected to determine value will reflect this.

Imagine that average condition brick bungalows sold between $140,000 - $160,000; total rehabs sold for $190,000 - $210,000; and the property you are buying today may be worth $90,000. Yet, the comparables the appraiser selects are between $190,000 - $210,000. Why? Because the appraisal is being completed “subject to” the completion of the list of repairs. If these repairs were finished today, the property would be worth what? $200,000 in our example, because the value of the property is based on the comparables that were rehabbed.

What to remember?

“Subject to” appraisals deliver the after-repair value of property. This value is based on the completion of a repair list provided by the borrower of the loan and to be completed at a future date. The comparables selected to support this future value will be selected based upon the hypothetical completion of all repairs and design plans given to the appraiser. So if you are, or intend to be a rehabber or developer, then, yes, you should be familiar with “subject to” appraisals because you may need a few in your future.

Invest With Passion!

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Freddie E. Taylor, MBA is a practicing Certified Residential Real Estate Appraiser in the Metro Chicago area for over five years, Mr. Taylor enjoys the business and services he is able to bring to the market. For more information about appraisals or to contact Mr. Taylor, visit his website www.pickingcomps.com.