What Builders Should Know About Appraisals and Lumber Prices

Filed in Advocacy, Material Costs by on February 23, 2021 33 Comments

Impact of Lumber Prices on Appraisal

Lumber prices continue to rise, with pricing as of mid-February reaching new record highs. Other materials, such as gypsum and ready-mix concrete, are also experiencing price volatility. In addition, components such as interior doors, shingles, cabinets and others are experiencing significant delays in delivery that make it more challenging for builders to construct homes efficiently and on time.

As builders struggle with these front-end issues, they are also experiencing additional challenges on the backend, as appraisal standards make it difficult to recognize the full impact of sharp increases in the cost of building materials. In addition, appraisers often have limited access to information to accurately assess the value of a home.

“The appraisers use market value, so if we sold a house three months ago and just completed a new build with higher material costs, they only give a market value of the house that sold three months ago,” explained James Blyth, an affordable housing spec builder in North Carolina. “In our situation the appraisal came in $10,000 lower than our asking price. Our price increase was to cover cost increases. It forced the buyers to come up with an additional $10,000 out of pocket to cover our cost increases.

“We have 10 houses under construction right now that will be ready for early spring and summer occupancy,” he added. “Normally we would start marketing once the foundation is in the ground. I will not quote a price until we have all of our costs in.”

Cost-Based Appraisals Better Reflect Rising Material Costs

In order to best address these significant increases in the price of materials, it is important to understand that appraisers can incorporate three approaches to determine the value of a property: sales comparison, cost and income methods. Under the cost approach, the appraiser estimates what it would cost to rebuild or construct an equivalent structure. Because this component of property valuation considers the costs of materials used to construct the property, it is often very helpful in analyzing the value of a newly constructed home.

builder tipsIt is also important that builders understand that it is acceptable — and extremely important — for a home builder to speak with an appraiser and provide all the information the appraiser needs to perform an accurate assessment of value. One item that has proven effective in assisting appraisers in considering material costs in developing new home valuations is an “appraisal binder.”

An appraisal binder — which is given to the appraiser upon his or her arrival to the property — will provide the appraiser with a cost breakdown of all materials used in the construction of the home. This information will assist the appraiser in balancing the market value of the home with what it cost the builder in materials to construct the home.

Keep in mind that the cost approach to value is always used in combination with the sales comparison approach — with greater weight or emphasis given to the sales comparison approach, per Fannie Mae and Freddie Mac guidelines. Builders should also incorporate existing home sales as comparables if there is a lack of new construction comps that can be used.

One builder in Greenville, S.C., was recently able to utilize this appraisal approach for a spec home he was building. He had been able to successfully sell the same home recently for $711,000, but when he received the invoice for the lumber package on the new spec home, it was $56,000 higher than the home he had just sold. The initial appraisal for the new spec home was $711,000 — the same as the home he had just sold, but that had been built at a lower cost. When the builder revisited the value approach with the appraisal, he was able to secure a construction loan that reflected the increase in prices.

In a recent listening session with Federal Housing Finance Agency (FHFA), NAHB suggested that more consideration be given to the cost approach to value new homes, particularly in rural areas where there may be few comps or sales to help produce a fair and accurate assessment of value.

Visit nahb.org to learn more about the impact of rising material costs and understanding appraisal approaches.

Share Your Lumber Story

NAHB would like to hear how rising lumber prices, and the limited availability of lumber, are affecting your business and the impact on housing affordability. For example, missed closing opportunities, increased costs, buyers being priced out of the market, etc. This will help us further illustrate to the Administration and Congress why a plan to address the lumber crisis is urgently needed.

If you’ve had positive interactions with appraisers or suppliers, please let us know as well. Share your story here.

Tags: , , ,

Comments (33)

Trackback URL | Comments RSS Feed

  1. Armando Cobo says:

    Two things Custom Builders need to do.
    1. Start listing all their projects in the MLS, so Appraisers can get good comparables.
    2. Demand that Lenders hire Appraisers that are certified by the Appraiser Institute, to use the Residential Green and Energy Efficient Addendum, AI Form 820.06. See: https://www.appraisalinstitute.org/appraisal-institute-releases-guide-to-residential-green-addendum/
    Until that happens, Builders and Homeowners are leaving about 10% value on the table.

    • Agree! They need to start using the Green and Energy Efficient Addendum. Better, tighter, more energy efficient homes should be accounted for in value.

    • Jelen says:

      I agree, Armando. Also a list of costs vs what they had the borrower pay. I seeot premiums for every lot, builder incentives, builder discounts. It all gives the appearance of padding the numbers.

    • Armando, As an appraiser, RE Broker and prior residential builder: MLS sales are by definition proven as market sales by their exposure periods and potential of realizing the highest return from the buyer whom values the home above the competition and is willing to invest at the best rates we’ve seen in many years. A custom home, similarly affected is often constructed on a cost plus profit method insulating the builder from unforeseen contingencies. It therefore makes no positive effect to publish custom builds in MLS.
      Item. 2 It is the public whom must be educated on the benefits of green building techniques before costs translate to value. Until this time, they are added costs that may only help market a home. Green methods only benefit long term owners as there is usually a recapture period before saving are realized.

  2. ldw says:

    As someone who appraises new homes for a living, I respectfully disagree. While construction costs and home values tend to converge in the long run, it’s not necessarily true in the short term. The market value of a home doesn’t automatically go up just because construction costs rise. Comparable sales of similar properties are usually the best indicator of value. That’s why appraisers and regulators give most weight to the sales comparison approach.

    One problem is that in areas where prices are rising rapidly, even recent sales comps may lag behind the market. There isn’t much that can be done about this except to be sure the appraiser has the most recent data, including pending sales.

    • KHJ says:

      And therein lies the problem. “Here’s your sign.”

      • phil says:

        Agreed; someone who just doesn’t understand the industry, and what is currently going on in the industry. The market is determined by what someone will pay for the product, and costs pay a large part in this market….

      • Historical trending data is often calculated into historical sales to reflect market appreciation. This method still lags behind the abrupt increase in dimensional lumber pricing. Whether it is contractor profits, workers comp insurance expense, labor overhead, materials costs, Govt impact fees, this group that competes for the building industry dollar($) will continue to see rising costs of construction until the public realize that existing housing is a better buy.

        • Gas prices haveGas has gone up 25% or more since the first of the year. For me, gas is a large portion of my business expenses. If I tell the lender/client I need to increase my fee by 25% or more they won’t pay it. Why? Because they don’t see the value. If however, business gets so busy that there is a lack of appraisers and they need an appraiser badly or they want an appraisal on a property that no other appraisers are willing to accept and and I increase my fee by 50% or even 100%, they pay the increased fee because there is value. I look at the market data to see if a Date of Sale adjustment appears warranted. If it appears warranted then I make the adjustment, if it does not appear warranted then I don’t. Most of the time the builder simply wants me to increase my estimate of value because they think I should. Seldom to they provide any additional data or explanation as to why an increase is warranted.

          • Cal says:

            That’s why give them a cost breakdown on everything you have quoted then raise your cost on that one specific item. Not the total price

    • Mike says:

      Thank you for your comments. I agree with you that a homes value does not necessarily go up just because costs go up. But when buyers continue to pay the increased pricing and you are not recognizing homes that are under contract for the increased price, you are ignoring the actual value of the home.

      I get that the home needs to be closed to first capture value, but in Colorado, buyers are lining up to buy new and resale homes.

      Simply saying that prices have gone up, you had 30 people who wanted to buy this home, but I don’t have a comp for it makes no sense. If buyers are willing to buy there is an inherent value created by market dynamics. The market should dictate value, not an appraiser in my opinion.

      • David G BROWN says:

        Except that appraisers have guidelines they have to follow and your definition of market value does not match the definition of market value that we are required to use. For one, the buyer is not always paying cash but is using someone else’s money, in the form of a loan. Second and more importantly, in the appraisal process, the appraiser can’t just say, well the value is $X because there are contracts for that amount. That would be a quick way to lose a license. If the market truly supports a value, there will be other properties sold that support that amount. When conducting a VA appraisal, the appraiser, if the estimate does not appear to support the contract price, notifies the lender and requests additional information as to how the contract price was determinined, more often than not, the additional properties provided by the builder do not indicate support for the contract price. If they do, the contract price can be adjusted.

  3. The reality of value must take into consideration of demand. Builders in the past would sell a house below it’s total cost including land to deleverage their exposure in a declining market. Most of us remember these times if we been in development long enough. Today a lot of value is developed because of scarcity of product. As my father told me they don’t make any more land and in declining markets we would shut down until the market redeveloped. Improved lots that cost $22,000 became worth $750,000 or more over a ten year period when demand came back along the coast. We owned what we sold. When materials and labor are unpredictable we included a increase that was fully documented. If the buyer wanted out we would let them retaining any special option costs that was specifically wanted. Our bankers accepted the additional raises based on the opinion of their very knowledge appraisers. Few backed out of their purchases. 50 years in the business, retired 10 years.

  4. testerd says:

    builders and borrowers need to look at this from the lender’s perspective. what you want is not necessarily what the market wants. and you putting strain on a builder’s norms, even if they’re a custom builder, doesn’t reflect what the market thinks. and if you default on a loan that doesn’t reflect market value, that puts everyone in a bad spot.

    custom can be nice. but that’s not always what people want. and custom to one builder might be standard to another. but prices won’t reflect that.

  5. Bert says:

    Really wish the article discussed the ideas for overcoming the challenges of VA appraisers. We haven’t had much luck with them and tidewater appraisals.

    • John Bitely says:

      We had to quit offering to do VA deals due to appraisals…… the VA appraisers had enough brass to tell us to just lower our price to his appraisal, we could afford it. Unfortunately he cost the client a new home as we had other clients more than willing to buy a completed home in this market. That appraiser also cost untold other clients the option to use their VA loan.

    • Robin says:

      I agree 😠!! We had TWO homes by VA appraisals come back 50K and 40K off the sellers asking price. How ridiculous is this? They cost us two lovely homes. We’re now building but still that’s NO guarantee about this either but we’re praying for a better outcome next month. We’re still shaking out heads!!!

  6. Doug J says:

    Per Fannie Mae guidelines (which most of these loans are ran through DO/DU which is a Fannie Mae Loan underwriting program) the majority of the value can not come from cost based value vs. sales comparison.

    The problem is that most of the appraisers (if not all) are not considering any of the cost approach into their value and solely basing their appraisal on the sales comparisons which doesn’t make sense when they are completing an appraisal on new construction vs. an existing home.

    Until someone explains to the appraisers that they can consider a portion of the “cost approach” into their final value, this cycle won’t end.

  7. LR says:

    Because of FHA guidelines “most” of appraisal value has to come from the sales approach. I’ve seen some commercial appraisals with a % balance of sales/ costs/ income approach where final value is arrived with a %. Until appraisers start giving some % even 20% value with say 80% value from sales or some kind of weighted formula we aren’t going to come close what it actually costs us to build these homes.

  8. David Brown says:

    Crazy to blame it on the increase in lumber prices. I understand that lumber prices are going up. I appraisal a LOT of new construction. Last year new construction was probably 90% of my assignments. I am a VA appraiser. When I’m appraising a new home I’m comparing it to recent sales, typically started about the same time as the subject, typically went under contract at the same time therefore there is difference in what one house will cost compared to the other. When I have to compare my subject to an older sale, IF there is data indicating an increase in costs and thus price of construction then I can adjust accordingly. For example, the subject was started in lets say July and now closing in Feb. I’m comparing it to a house that was probably started about the same time and is selling either now or in Jan or Feb. They are comparable. There is no difference in the price of the lumber for those houses. But I’ll see houses started at the same time now listing for $20,000 more. There is no reason for that. Then we I do get to the point that I see that there is an issue with value and I request information on how the builder came up with the sale price, I get several additional properties and the only information but builder typically provides is square footage, room counts, garage size, price, and date of sale. No explanation on why one property is selling for more than the other. No information regarding upgrades. When the builder’s are so lazy they can’t bother to provide an explanation, a simple explanation, as to why one property is selling for more than another and expect me to automatically adjust based on price per square foot then I have no sympathy for them. Until builder’s decide that they want to help the situation by providing adequate information to the appraiser, then the situation is not going to change. And I paid for my course work in Construction Engineering by framing houses and working for bricklayer so I do understand home construction from more than just the appraisal courses I took.

  9. Mark Paskell says:

    The cost to produce a new home should never be compared to an older home period. Newer codes and methods of building are raising the cost of homes and builders are not the reason for this increase, regulations and local impact fees and now increase in materials and labor. If you are a builder charge the fair amount with these increases and let the buyer know they will have to pick up the delta over the low appraised amount. I would be surprised if appraisers stop using older home comps.

    • WardMD says:

      Good point. As someone currently BUYING a new construction home, I would argue that the NEW CONSTITUTION home is MORE VALUABLE to a similarly sized “old” home (and it has NOTHING to do with the cost of materials).

      The NEW CONSTRUCTION has new EVERYTHING (including solar)…. It is (in my humble opinion) IMPOSSIBLE to compare a similarly sized (older) house, on a similarly sized lot, to the NEW construction!

      It would be like asserting a NEW CAR value based on the similar car on the Used Car lot!

  10. SPG says:

    The cost of building a home should never be confused with its value.

  11. WD Properties, Inc says:

    Builders rarely list new builds on the MLS where the potty is exposed to the market. If it is not exposed to the market then what the buyer wants to pay is not market value. Its right in the definition. Only resales of new builds should be used for comparison except where there are not any. COST DOES NOT EQUAL VALUE. Enough said about the cost approach.

    • Stacey Suydam says:

      So true! And upgrades are a buyer’s choice and do not necessarily reflect the market as a whole. The lender should not be put over a barrel for cost of upgrades.

  12. Eric says:

    Yes, values are rising… IF the borrower is willing and able to pay the balance after the Appraiser does their job and reports the risk of rising values and costs in a market that is already pushing the boundaries of “affordability”. If the Fed would do their job and raise rates a point along with gas prices surging it is going to start being difficult to move new inventory. The pressure is real but so is the risk and it’s time to let things cool off a bit and allow the supply chain to catch up as well. I would rather see a soft landing than let the powers that be push us off the next cliff as in 2008. But that’s just my opinion, I could be wrong.

  13. Thom W Wright says:

    The real issue is that the appraisers are under-appraising, not just new but existing. It really doesn’t matter now that the lumber costs less when that house was built. The fact that houses are selling so fast is pretty good documentation that they are underpriced. That goes for new and built. Appraisers love to use old comps as do realtors. That makes their job easy, doesn’t mean they are competent though.

  14. RWLJR says:

    As I see it from a buyer, (I have a contract on house since Jan 2021). My custom builder is cost plus. He has limber bids out now,. I am very nervous that i will not be able to afford a $60,000 increase from his estimated cost. We are building a 3 bedroom house in Waxahachie Tx, Empty nesters, thinking we could settle in our dream house in wonderful Texas. Now i am sick to see the 25% increase in lumber since Jan. 2021. As of today price of lumber is $1,075. That is crazy!!! People who have put there life savings down on dream house like me, have a hard time backing out. You get involved with architecture, Property, custom kitchen designs and then your builder presents you with the bids coming in 25% higher. The problem is banks will give the mortgage, and then people will default…. The bubble will pop!!!!!

Leave a Reply

Your email address will not be published. Required fields are marked *