The appraisal contingency: how it protects a buyer and how to set it

What the contingency does

An appraisal contingency is a clause in the purchase contract. It usually says that if the appraised value is below a set figure, often the price, by a certain date, the buyer can:

• ask the seller to lower the price;
• agree to pay the difference;
• reach a compromise in between; or
• cancel the contract, usually with the earnest money returned.

The exact options and steps depend on your contract form and state. Read the clause with your agent before you sign the offer, not after the appraisal arrives.

What it does not do

It does not guarantee the home is worth the price, and it does not cover the home's condition. That is the inspection's job. It also is not the same as a financing contingency, which protects you if you cannot get the loan. A low appraisal often does not stop the loan. It just changes the math. Many contracts handle the two separately.

The terms to set

The deadline. Long enough for the lender to order, receive and send you the appraisal, with a cushion. Appraisal timing varies by market and season, so ask your lender. Use the calculator to count the days in your clause.

The trigger value. Usually the purchase price. Some buyers set a lower figure to make the offer stronger, which means they will cover a gap up to that amount.

Notice. How and when you must tell the seller, and what happens if you miss the deadline. In many contracts, missing it means you have accepted the appraisal as it is.

Your copy. Federal rules require your lender to give you a free copy of the appraisal for a first-lien mortgage promptly after it is completed, and no later than three business days before closing unless you waive that timing. The CFPB encourages reviewing it carefully.

Waiving the contingency

In competitive markets, some buyers waive the appraisal contingency or promise to cover a gap up to a set amount. That can win a house. It also moves the risk to you. Before waiving, work out how much cash you could add after closing costs and still keep reserves. Then put that number in the contract as an appraisal gap clause, rather than waiving the contingency entirely.

When the value is low

You have options before the deadline. Read the appraisal for errors, such as the wrong square footage, a missing bathroom or comparable sales that do not fit. If you find problems, ask your lender how to request a review. Renegotiating with the seller is common, since the next buyer's lender may reach a similar value. The appraisal came in low guide covers each option.

The bottom line

Set a realistic deadline, know the trigger value and notice rules, and decide in advance how much of a gap you could cover. Then read the appraisal as soon as you get it, so you can use the contingency before it expires.