Commercial Real Estate Appraisal

Commercial Real Estate Appraisal

The fact is that commercial real estate appraisals cost far more than the any typical residential appraisal.  While an average residential appraisal may cost a few hundred dollars, a commercial appraisals can easily cost a couple thousand dollars or more.   If a client has never secured a commercial mortgage before, they could balk at the sight of this fee, or even worse when a commercial real estate lender requests a 3rd party expense deposit.

To make matters worse, there are commercial mortgages now applied to residential properties and they often require commercial appraisals. This is especially prevalent when there is a portfolio loan on a group of residential properties and the entire group of properties are all appraised as commercial real estate.

In order to keep the transaction on track and help the clients understand the need for the more expensive appraisal, it’s critical for you to manage expectations and overcome objections that may arise regarding the expense deposit and or specifically the appraisal fee.  The most important factor is to educate a borrower and sidestep any potential hurdles down the road. Here are three reasons commercial real estate appraisals cost more than residential appraisals.

When you discuss the appraisal fee, a client must understand, that while residential homes are often cookie-cutter as it comes to structures and property types, each commercial property is completely different.  There are not easily-identifiable comparable properties that have recently sold, it therefore follows that the appraisal is more difficult to complete.  The challenging nature of commercial appraisals and the methods used to establish the value has much to do with the higher fee.

Additionally, there are far less commercial appraisers as compared to residential appraisers also impacts costs. Commercial appraisers are required to have a minimum certification of “certified general appraiser” (which now requires a 4-year college degree), whereas residential appraisers need to have a residential certification (which requires only a 2-year college degree).

Part of the reason commercial appraisals cost so much more than residential is because they take much longer to complete. The commercial appraisal process will take three to four weeks on average, while residential appraisals are typically completed in a few days. This is not because they are so busy starting one appraisal and not completing it while they start others. This is cause there is so much more work to do on each report.

Commercial appraisals also require extensive research that affects the completion time. Appraisers must complete a property inspection and additional research on the property.

The property inspection is only a small portion of the documentation needed for appraisals. Appraisers must also research the property’s ownership, zoning records, demographic, and lifestyle information using similar data sources. In addition to this research, they gather comparable sales, market costs, and rental costs as well. All of this information is then analyzed to support the value through a capitalization rate that is also market determined and is based on required rates of return for that market based on the risk associated with the property type and location. The appraisers not only look at numbers they also consider the economic trends of the area as they effect the ability of the commercial property to generate income (which is the basis of the commercial property value).

This documentation for commercial appraisals is generally about 100+ pages long and is usually in the narrative form, meaning the appraiser is responsible for writing a full report on the property based on their research and analysis. Residential appraisals are completed by simply filling out a 25+- page form that is primarily fill in the blanks with minimal original narration.

“Third Party Expense Deposits”

Just as the cost of commercial appraisals are a surprise to residential real estate investors who have not done commercial real estate loans in the past, 3rd party expense deposits are also something they are not familiar with.  Appraisals are the key factor of the 3rd party expense deposit, but it is not the only expense. Commercial lenders usually will do extensive background checks on the sponsors, borrowers and guarantors. The background check is on the company as well as the individual. In addition to checking the financial, legal and criminal background of the individual and the company commercial lenders will check the legal structure of the company as well. Depending on the loan type and property type there may also be environmental and general property inspections required. Often these inspections are not determined necessary until the appraisal is completed based on appraisers observation.

During the appraisal and inspection time, commercial lenders are processing and underwriting the loans. They do not want to waste their time and resources unless there is a financial commitment from investors. Therefore it is common practice for Banks and Commercial Lenders to require an expense deposit. These deposits are a non negotiable requirement to proceed with the loan process.

Novice Commercial Real Estate Investors who do not understand these requirements often have a hard time committing to the process and end up settling for more expensive loans from higher costs lenders who can accept greater risks because of their higher costs.

If a client qualifies, then they should generally choose the lower rate and overall fees of a conventional type commercial mortgage versus the higher costs hard money options.