Whether you are buying or selling a home, the appraisal is a very important aspect of the transaction. You can't wait to hear if the home appraised for the contract price.

What happens when an appraisal comes in lower than the purchase price? If your buyer gets an appraisal lower than the sales contract, the buyer has a number of options.

Let's say that the sales price is $300,000, and the buyer is obtaining an 80% loan of $240,000. The cash difference between the loan amount and the sales price is $60,000. The house must appraise for $300,000 of more so that the lender will loan the 80%.

If the house only appraises for $280,000, the lender will only lend on 80% of the home's value, or $224,000. To buy the house for full contract price, the buyer will have to come up with another $16,000.

Everything in a real estate transaction is negotiable. Look at your sales contract. There should be a financing contingency in the contract. If there isn't a contingency included and there are no other clauses that refer to the appraised value of the house, the buyer has no legal alternatives. The buyer must buy the house by coming up with the extra money, or be in default of the contract and forfeit the earnest money deposit.

Most real estate transactions use a standard form contract. There sill be a paragraph dedicated to financing contingencies. In general terms, the buyer is give a certain number of days in which to get a loan approval letter. If the approval does not come in time the buyer can terminate the contract and receive the earnest money deposit.

Most contracts will go on to state that the financing contingency continues after the time limits unless the seller gives the buyer three days notice that the contract will be null and void. During the three days, the buyer can keep the contract alive by getting a loan commitment letter or removing the financing contingency and showing proof of sufficient funds for the settlement.

Many buyers are concerned that the property may not appraise at the full contract price and add additional language that says that if the house doesn't appraise for contract price, the buyer may cancel the contract or purchase at the appraised price.

The language is a bit vague for the seller, who may be held at an unreasonably low appraisal value. The seller should make sure that the contract states that if the seller doesn't agree to sell at the appraised price, this contract may be declared null and void at the option of the buyer.

Contract language varies from place to place, so it is important to review the terms with care and appropriate assistance from a broker or attorney.

What rights does the buyer have if the appraisal comes in lower than the contract price?

The first thing you should ask yourself is if the house is worth the contract price. You have the right to obtain a copy of the appraisal, and you should read it carefully. Make sure there are not any errors in the report, such as the wrong dimensions, ignored additions and upgrades, or blatant mistakes. Demand that the appraiser return to the property and reevaluate the situation based on the noted errors.

Keep in mind that appraisal is not set in stone. It is simply an attempt to valuate a piece of property, based on many different methods. Generally speaking, most residential properties are assessed using what is referred to as the "Sales Comparison Approach". With this procedure, the assossor compares the property to the sales of similar properties. While square footage, replacement value and other aspects are considered, the bottom line is often based on opinion.

Because no two houses are really similar, there has to be a lot of subjectivity involved. But the measurements of your property must be correct before the appraiser can make comparisons. If there are mistakes, the mistakes could cause a lower appraisal, and the appraiser should go back to the property and correct the mistakes.

If the appraisal comes in low, have your lender put pressure on the appraiser to reassess the property. I have heard of where mistakes have been made and corrected.

The best test of the market is what a buyer is willing to pay for a home. The price sets the market value. Discuss the situation with your potential buyer. Try to avoid having the real estate brokers carry the conversation back and forth. Ask teh buyer right out, "do you want to buy the house or not?"

If the buyer is interested, there are a number of ways to accomplish this. Whether the appraiser modifies or not, you can compromise the price. The seller may agree to take back some of the financing to make up the difference between what the lender will lend and what the original borrowing amount was.

If you determine that the buyer wants out of the deal, you have a decision. You can either lower the price or decide to sell it anyway.