For a construction loan, the appraisal is done from the plans and cost breakdown.  To call it a “future value appraisal” is a misnomer in some ways since the comparable sales reflect the current market, and no attempt is made to peek into the future.  The appraised value should reflect what the property would be worth if it existed already and was built as planned.  Comps should be similar in design, appeal, effective age, square footage, amenities, and room count and of course should be in the same market area.  Like with other residential appraisals, the comps should bracket the subject properties from the high and low side in most if not all of these areas.   

There are two additional important areas of discussion on construction loan appraisals, the cost approach and the possibility of the property being and over-improvement for the area.  The cost approach is important because construction loans universally are back to where they were 10 years ago, to the extent that value is the lesser of total cost or the appraised value.  Correspondingly, an 80% loan would be based on the more restrictive of loan-to-cost or loan-to-value calculations.  If the borrower is buying the lot, costs are the purchase price of the lot, plus hard and soft construction costs.  Soft costs include plans, plan check, permits, testing and other fees (school fees for example).  If you already have owned the lot for at least a year, the lot value to be used in the loan-to-cost calculation is the lesser of the purchase price or the current value.  No separate lot appraisal will be done.  In the cost approach section of the construction loan appraisal there are numbers for the “site value”, and “as is value of site improvements”. The sum of these two numbers is what is generally used as the current lot value, although sometimes “as is value of site improvements” gets left out.  If the borrowers have done site improvements such as grading or putting in well and septic, the amounts for this work do not get added to the total cost calculations since they should be reflected in “site value” and “as is value of site improvements.”  Softs costs need to be documented with cancelled checks and invoices, and hard costs will be reflected on a fixed price contract with the builder.  Usually the market approach value is higher than the cost approach total, otherwise the borrower might not even be inclined to proceed.

One instance where costs would likely exceed appraised value (based on market comps) is where the property is an over-improvement for the area.  It is hard to get a construction loan on a property which will end of being one of the largest in the market area, unless the borrower starts with considerable equity.  Borrowers may be paying $200 per square foot for additions when appraisers feel constrained to limit GLA (gross living area) adjustments to $100 per sf or less.  This can result in appraisal issues, as can extensive high end remodels without adding square footage.

1 thought on “Construction Loan Appraisals”

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