All you need to know about property valuations and your home loan
Ever wondered how a property valuation fits in with getting a home loan? In this article, we dive into understanding home loan property valuations. By the end, you will get a better experience of what is going on the next time you speak to your mortgage broker or banker.
Let’s start with the basics. Lenders are in the business of lending money, expecting that a borrower will repay the loan plus some interest. There is always a risk that a borrower may not make the repayments as agreed. For this reason, all lenders require property as security against your home or investment loan to protect them from a loss if you stop making repayments. If you stop making payments for an extended time, a couple key things will happen. There will be continued attempts to work with you to get the loan up to date. If that doesn’t work, your lender can sell the property as a last resort to recoup the money they are owed.
(Just to be clear, missing one payment won’t result in your home being sold from under you. There are stringent guidelines that a lender must go through to allow a borrower to bring the loan up to date. Lenders also realise that sometimes life doesn’t always go to plan. Each has a team ready to help in times of financial hardship. My advice is to reach out to them as early as possible if you have difficulty making payments. They are to help, not to judge or punish. Too many put their head in the sand, dodging calls until it’s too late. A simple discussion will often get the time and flexibility needed from repayments to get things back on track).
The value of your residential property your lender takes as security for your home loan forms a crucial part of your application’s assessment. A valuation of the property is completed to determine the value that is relied upon.
As you will read below, there are different types of valuation.
Whether you are buying a property or refinancing your home or investment property, your lender will complete a valuation to assess the value of each security property.
How a valuation is used
Your lender relies on a valuation to confirm the value of the security they will be taking against the loan amount you are applying for.
A valuation report also includes details about the property. Land size, building size, number of bedrooms, bathrooms and car spaces are all included in a valuation report. Other important risk factors about a property can also influence its value and suitability as a security for your loan. These will also be included as a part of the valuation report.
A term you may hear during your application process is the loan to value ratio or LVR.
- The LVR is calculated by dividing the loan amount by the security value. The general rule is the lower the LVR, the lower the application’s security risk.
- One other important point is that an 80% LVR or below is the preferred level for a lender.
- Lenders will lend as high as 95% LVR when buying a property to live in. This level is seen as a much higher risk than an 80% LVR or below. A more detailed assessment is usually completed.
A valuation is also used to show any potential risks of the property, including the state of the building, local market conditions, the saleability of the property or environmental hazards.
Different Property Valuation Types
A lender can require multiple valuations types when assessing a property to be taken as security.
Here is a list of the most commonly used.
AVM (Automated Valuation Model)
This type of valuation is an assessment of the property value based on information about the property available across online property data sources such as RP Data or Domain.
- This type of valuation is totally automated and completed by a computer algorithm.
- There are two types of AVM.
- The first is generated from services like RP Data. It will be offered by mortgage brokers, real estate agents or self-serve property valuations from a lender.
- AVM’s are a great way to get an idea of what your property might be worth but cannot be used for your home loan application. These are for information purposes only.
- The second type can be used for your finance application. These are completed by your mortgage broker or lender as a part of your application.
- This type of AVM isn’t provided to the borrower (other than letting you know the amount of the valuation figure). Still, it can be relied upon by the lender.
- These are completed by the lender’s individual valuation systems and use different algorithms to the first type of AVM mentioned above. These are customised to the lender’s credit policies.
The advantage of AVM over other valuation types is the speed of completion. Given no human involvement, these are completed promptly, whereas different types of evaluations will take 1-3 business days on average.
Contract of Sale
- In certain circumstances, some lenders will accept the purchase contract for a property when the valuation risk is thought of as low by the lender’s credit policy.
- Like an AVM, these are completed very quickly (within 24hrs) and help shorten the overall application time.
This type takes the AVM a step further.
- The AVM uses online sales data with no human involvement. A desktop valuation is completed by a qualified property valuer from their computer. They will use the online data and the other information and their local knowledge of the area they have available to decide a value.
- This is probably one of the most common valuations used as it is a more comprehensive report completed by a professional property valuer. Still, because a physical inspection of the property is not required, they can be done in as little as 24 hours.
Full Valuation (Short Form Valuation)
This is the valuation type used for any applications over an 80% LVR and if an application or if the security is believed to require a more detailed inspection.
- Maybe you have completed renovations on the property that wouldn’t be recognised in an AVM or desktop valuation. In this scenario, your property valuation is expected to be higher from a physical inspection that will give the valuer the best understanding of all aspects of the property.
- Your mortgage broker or lender don’t feel the actual value is reflected; they may request a total valuation to completed.
- A full valuation requires a suitable inspection time to be agreed upon between the property occupant and valuer. These will often take 3+ business days to be completed.
- The valuation report is the same for a full valuation and a desktop, so the main difference is the inspection and time it takes for a report.
The final type of valuation is the construction valuation.
- If you are building a house or completing a major renovation, a construction valuation will be completed.
- This valuation is a bit different from the other types of valuation mentioned above that work out the value of a property at the time of inspection.
- A construction valuation is instead valued as if the property build was already completed.
- The lender uses this end value to work out the LVR once the construction is completed.
A construction valuation will confirm that the build cost is realistic for what type of property you are building. It can be helpful for a borrower completing a significant renovation as it provides a professional’s opinion on what the property will be worth once the improvements are complete.
How a type of valuation is decided
All lenders have a credit policy that the loan assessors use to decide if an application is an acceptable risk to approve or decline.
Part of that credit policy includes a section about how security properties are assessed. This policy will outline the type of acceptable valuation based on aspects of the property and loan application.
This can include such things as:
- An unusual factor about a property that requires a deeper understanding and thus a more detailed valuation (such as a full valuation)
- The loan to value ratio of the application
- The purpose of the application (purchase, refinance, debt consolidation or equity release)
- The property value (properties over $1M usually require a more detailed valuation such as a full valuation)
What this means for you
The type of valuation used for your application is mainly out of your hands. With that being said, most lenders will allow a valuation to be ‘escalated to a full valuation if an AVM or desktop valuation does not come up to your expected valuation. Once a full valuation has been completed, that is the final valuation used for your application.
A valuation of your property or the property you are buying can significantly impact your application.
- In some cases, it can mean the difference between mortgage insurance premiums or not be payable if your LVR goes over 80%
- The valuation can affect your interest rate if your lender offers different interest rates based on the LVR of the application.
A valuation for mortgage purposes
This is an important distinction to understand.
A valuation completed as a part of your application is classified as a valuation for ‘mortgage purposes’. This is not the same as the valuation that a real estate will say they can sell your property.
As I mentioned above, lenders only sell a property as a last resort when all other attempts to get the loan repayment up to date fail. By this time 6 months will have passed, often where the borrowers haven’t made repayments for a long time (otherwise, there would be no reason to consider selling as a possibility)
When a lender sells a property, it is called a forced sale. When a property is listed by a lender, it becomes common knowledge that it is a forced sale. Lenders want to sell within 3 months. Real estate agents and buyers are aware of this urgency and use it to secure a lower purchase price than they might usually be able to.
For this reason, a valuation for mortgage purposes will often be more conservative than a valuation based on a sale price under normal market conditions.
You should now better understand what happens when your mortgage broker or loans officer says that a valuation will be completed as a part of your loan application.
If you would like us to prepare and send you an AVM of your property, simply click this link, fill in the details, and we will send you your report by the next business day.