Home Equity Loan Appraisal: What You Need To Know

If you prefer not to touch the rate on your primary mortgage, a home equity loan could be an alternative to turn your existing home value into cash to support your financial and home improvement goals. Like a cash-out refinance, your home serves as collateral and gets evaluated for condition and worth.

Let’s touch on the ins and outs of a home equity loan appraisal.

Does Your Home Equity Loan Require An Appraisal?

Yes, your home equity loan will typically require an appraisal to protect your mortgage lender. Because you’re using your home as collateral, a home equity loan is considered a secured loan. If you borrow more than the value of the home, that will leave part of the loan unsecured, which puts the lender at financial risk should you default.

Why Do Home Equity Loans Require An Appraisal?

An appraisal serves two purposes for lenders: It helps establish the home's value and determine its condition.

Home value, also called appraised value, is a professional opinion on how much the property is worth on the fair market if it was being sold at the time of the valuation. This opinion is typically given by a state licensed home appraiser who operates independently from the influence of the lender or homeowner.

Home equity is the difference between your home value and your remaining mortgage balance.

You can’t borrow the full amount of your existing equity between a primary mortgage and a home equity loan. To cut down on risk, lenders require you to leave a certain amount of equity in your home, which lenders measure using a metric called loan-to-value ratio (LTV). LTV is the inverse of equity. So, if you have 20% equity in your home, it means your LTV is 80%.

Rocket Mortgage allows you to borrow up to 90% of your existing home value between your primary mortgage and a home equity loan if you qualify. Here’s the formula for calculating how much you could borrow.

Loan Amount = Home Value × 0.9 - Primary Mortgage Balance

Let’s say you have $200,000 remaining on a mortgage for a home worth $400,000. You could borrow up to $160,000 ($400,000 × 0.9 - $200,000).

Beyond determining the home value, an appraiser also has to determine the property's condition. If you default, a lender would have a hard time getting value for the property if there were things seriously wrong with the house. There are several factors appraisers look at, but most of these are pretty basic things like checking electrical code and making sure the water works. The roof has to be in good condition. It comes down to whether the property is move-in ready.

Types Of Appraisals For Home Equity Loans

Lenders can take several approaches to obtaining an accurate home value. Let’s examine the common types of appraisals used for home equity loans.

Full Appraisal

When people think of a home appraisal, they most commonly think of a full appraisal. Although there are other approaches to getting a home’s value, this is the technique most often used for home equity loans. Again, Rocket Mortgage requires a full appraisal.

In a full appraisal, the appraiser will walk through the home with the homeowner to evaluate its features and condition. The exterior is also inspected. Once your home has been evaluated, the appraiser goes back and looks for comparable properties that have been sold in the last several months. For example, three-bedroom ranches are compared with other three-bedroom ranches.

Finally, the appraiser also checks that all major systems are working within the house such as electrical, water and HVAC.

Drive-By Appraisal

A drive-by appraisal, also known as an “exterior-only appraisal,” involves the appraiser inspecting only the outside of the home. The rest is filled in by public records and other information that an appraiser may have access to, such as online listing photos and information from special services.

The upside to a drive-by appraisal is that it’s convenient. The homeowner doesn’t even need to be there. It may also be cheaper because there’s less work involved. The downside is if you’ve done recent upgrades to your interior, the appraiser won’t see or evaluate those, so it may be less accurate than it could be.

Desktop Appraisal

In a desktop appraisal, no one visits your home. The data is compiled based on public records and other sources, including home listing websites and proprietary information. Again, this is very convenient. However, this evaluation is only as good as the data backing it up. If this hasn’t been updated recently, it could lead to an inaccurate home value.

Hybrid Appraisal

In a hybrid appraisal, someone performs the inspection part of the appraisal – collecting basic data, taking pictures and reporting on the condition of the home – and forwards that information to an appraiser who writes the report from their desk.

This type of appraisal could be used in areas where there is a shortage of qualified appraisers, and they have to travel long distances. As a result of increased efficiency, the cost of a hybrid appraisal may be cheaper.

Automated Valuation Model (AVM)

An automated valuation model (AVM) takes humans out of the process entirely. The idea behind an AVM is that it takes information it knows about the features of your home and compares it against other homes that have sold recently with those features. It’s intended to give an unbiased value opinion.

With that said, this process does have a couple of weaknesses. The first being that any model is only as good as the data being fed into it. If you’ve made recent upgrades, the model may not be taking those into account immediately. Secondly, all statistical models are based on assumptions. The things the model does and doesn’t account for are going to affect the value it reports back.

How Should You Prepare For Your Home Equity Loan Appraisal?

If you’re applying for a home equity loan, you can take several steps to help prepare for a home appraisal. These include the following:

• Declutter and deep-clean. An appraiser isn’t allowed to make value judgments based on your home’s cleanliness. However, make sure to declutter so the appraiser can easily access different points, as well as clean anything considered hazardous like mold.
• List upgrades and improvements. Make a quick list of upgrades and improvements you’ve made to your home prior to the appraisal so you can point them out. Mention anything that can set you apart and add value.
• Research comps. Doing research on comparable sales – or real estate comps – could give you a good idea of what the value might be in advance of the appraisal. This will help you determine whether your home equity can help you meet your goals.
• Test your home’s systems. An appraiser will test your home systems like your HVAC. Checking these out in advance will help you avoid any surprises.
• Don’t forget the curb appeal. The interior of your home is evaluated, but so is the exterior. Be sure to spend some time sprucing up the curb appeal of your house.
• Attend the appraisal. Because you own the home, you’ll have to let the appraiser in, so you can attend an appraisal for a refinance. This is important because you’ll be able to answer the appraiser’s questions so they’re getting the right information.

Do Lenders Always Require An Appraisal For Home Equity Loans?

Other Options For No-Appraisal Financing

Not every type of financing requires an appraisal, so let’s run through some of the alternatives so you can decide whether a home equity loan will help you meet your goals.

Personal Loan

There’s no collateral associated with a personal loan. Our partners at Rocket Loans^SM can help you see your options. Interest rates on these are higher than they would be for primary mortgages or home equity loans, but the closing costs can also make more sense on personal loans depending on your situation. Additionally, because there’s no need for an appraisal or title work, the funding process can happen much more quickly.

Personal Line of Credit

This can work similarly to a home equity line of credit (HELOC) in that you’re given a certain amount of money you have access to that you can draw from and pay interest on with the flexibility to put the money back later to use for another project. The difference is that these tend to be bank-issued and they aren’t secured by collateral.

Credit Card

For small projects, you may be able to fund them with a credit card. However, you should be prepared to pay off the balance quickly to avoid high interest charges. Additionally, credit card limits could severely restrict how much you can spend.

Contractor Financing

Certain contractors may be willing to extend financing to you on their own terms. Make sure to read through everything thoroughly and make sure that the terms make financial sense for you.

FHA Title 1 Home Improvement Loan

The Bottom Line

Most home equity loans are going to require an appraisal to get approved. Many lenders, including Rocket Mortgage, require a full appraisal to determine the appropriate home value. There are other options, but they are less commonly used and typically have higher borrowing rates.

To prepare, test your home systems and make a list of improvements that you’ve made over the years. If you don’t have a ton of equity or home value, there are other options such as personal loans and contractor financing for funding.

If you’re considering a Home Equity Loan, you can start an application.