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As I understand:

The purpose of a down payment is to minimize risk to the lender. For a traditional mortgage, lenders are willing to lend up to 80% of the value of the house.

The appraisal determines the value of the house for this purpose.

Therefore:

If the appraisal is lower than the sale price, the lender is willing to lend less, and my down payment is higher -- assuming I still wanted the house, and the seller didn't make an adjustment. If the appraisal was 5k lower, the minimum down payment would be 4k more.

And the reverse:

If the appraisal is higher than the sale price, the lender is willing to lend more, and my down payment is lower. If the appraisal was 5k higher, the minimum down payment is 4k less.

Is my understanding correct? Is this the purpose of a down payment, and its relationship to the appraisal?

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  • Personally, I would recommend not buying anything so close to your carrying capacity that you can't be pretty certain of being able to put 20% down... The appraisal is reasonably predictable from recent "comparables" in your area; your agent should be able to give you a reasonably close estimate. (It isn't a detailed evaluation, more a quick once-over to make sure you aren't asking for a half-mil mortgage on a chicken coop.)
    – keshlam
    Mar 8, 2015 at 0:22
  • @keshlam, I agree with the recommendation. I am operating under the advice that I put down only 20% (avoid PMI), and then invest the rest. I can afford the down payment regardless, but want to know if the appraisal affects it.
    – Paul Draper
    Mar 9, 2015 at 15:32

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No your assumption is incorrect. Its kind of like a "whichever is lower" kind of answer. A lender will loan 80% on the appraised value or sales price whichever is lower. Although in most cases they match up as the same number but if they don't they will take the lower number and loan on that.

However, if the appraisal was 5k lower I would go back and negotiate with the seller to reduce the price by 5k. They are in a position of weakness because if they don't sell to you then they still more than likely wont sell for more than the appraised value unless its in a hot market where they could get a cash buyer.

Good luck! Make smart choices!

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  • 1
    Welcome to Money.SE. This answer pretty much nailed it. Great explanation.
    – JTP - Apologise to Monica ♦
    Mar 9, 2015 at 21:30
  • SupremeA - Is there a reason why banks/ lenders choose "whichever is lower" scenario...Here's my sister's situation, They bought a new house in Nov 2015 - Contract price say 775K. Now in Mar 2016 the builder has increased the price of similar floor plan and to say 825K. So builder is selling the house @ 50K more. Can she make an argument that since they have a comparable floor plan in the same zip code the house is worth 825K and my sister has more asset to liability ratio and hence she can pay less than 20% and still have 20% equity due to appreciation in the property and avoid the PMI loan s
    – user40184
    Mar 21, 2016 at 19:54
  • @FinGuy No, banks will NOT base removal of PMI on increase in value. They will only remove PMI if the borrowed amount has been paid down 20%. They refuse to do that because they understand that values can fluctuate so they don't want to remove PMI then the value drops and they no longer have PMI. Hope I understood your question correctly.
    – SupremeA
    Mar 22, 2016 at 11:49

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