Real Estate Appraisal

A real estate appraisal is a licensed professional's written estimate of what a property is worth, and lenders base the loan amount on that figure. When the appraisal comes in below the price, the maximum loan shrinks and the buyer must bring more cash, which changes the cash on cash return.

If the default property appraises at $480,000 instead of $500,000, a 75% loan is $360,000, not $375,000. Cash invested rises to $165,000. On this deal the return actually edges up to about 6.5%, because the smaller loan costs more than the property yields. On a deal with positive leverage it would drop.

Many investors write in an appraisal contingency and renegotiate the price when value comes in short. A lower price fixes both the loan and the denominator at once, which is almost always better for cash on cash than covering the gap with more cash.

Further reading: Real Estate Appraisal on Wikipedia.