The lender will order a third-party appraisal of the property once the application and underwriting phases have been completed.
The order for an appraisal will come at the same time as a term sheet, which provides a detailed outline of of your expected loan parameters. (The term sheet is not a binding legal document, but generally means that the loan is going to be approved once the property appraises for the appropriate value.)
Commercial appraisals differ greatly from residential property appraisals, because inspection is only a small part of the process of understanding a commercial property’s value. A typical commercial appraisal is an in-depth narrative report ranging anywhere from 60 to +100 pages.
Once the lender orders the appraisal, it is the borrower’s responsibility to pay for it and supply the third-party report back to the lender. Depending on the loan and property type, the appraisal will assess the value of the property using one of three methods:
Income Approach: This approach enables real estate investors and lenders to determine the value of a property based on its income in comparison to similar properties. With knowledge on prevailing incomes and capitalization rates in a given market for a particular type of property, the parties involved in a transaction can estimate the income to be generated by the property and come up with an appropriate sales value for the property.
Sales/Market Approach: This method involves selecting properties with similar characteristics in the the same market area that have recently sold, and using them to assess the value of the property that will collateralize the borrower’s new loan. (This is the most common appraisal method required for a commercial mortgage, bridge loan, hard money loan, or refinancing.)
- Cost Approach: This method assumes the value of the property is the same as the cost to construct the property, or to build/replace it from scratch. This method requires an in-depth knowledge of construction and materials costs. (This method is not commonly used.)
Regardless of approach, commercial appraisal reports usually feature highly specific information on site and building improvements, building sales or ownership history, zoning information, regional and market area descriptions, flood-plain analysis, age/life analysis, market analysis (supply, demand, vacancy, absorption and etc.), detailed published surveys, and broker interviews.
For appraisals conducted under income or sales/market approaches, the reports also provide detailed information on the profits that can be attained according to the “highest & best use” of the property. They also include as well as detailed valuation analysis based on comparable properties according to different metrics – including rent and sale comparables, expense comparables, and cap rate comparables.
A commercial appraisal can take several weeks to complete, given all of the different aspects involved. Loans cannot be closed until the appraisal is final, so borrowers are wise to use InvestmentProperty.loans to initiate the process of obtaining a mortgage, bridge loan, or refinancing as soon as they know their financing needs for an investment property – especially if they need capital right away.
Commercial appraisals can vary widely in terms of cost, ranging anywhere from $2,000 to more than $5,000 depending on the size of the property, complexity of the underlying business/tenant mix, and scope of the loan transaction.