Property valuation can be likened to a science, using facts, mostly comparable sales in this case, to ascertain the value of a property offered as security for a loan to a lender. How much a specific security property is worth will define how much the said lender is willing to lend against it.
Each lender in Australia has a valuers panel, which is made of all the valuation firms around the country that meet this lender’s requirements. When a loan application is received (or, in some cases, even before it is lodged), most lenders will request a valuation from a randomly chosen valuer on their panel and use that report as their reference regarding the value of that security.
Aside from putting a value on an SMSF commercial property, a valuation report will also rank it for risk for eight categories, with a score of ‘1’ meaning very low risk and a score of ‘5’ indicating high risk. It will also provide an appraisal of what rent the property may return if it was used as an SMSF investment property.
How the market value of properties can be skewed through the bank valuation process
There have been many instances where identical properties or the same building can be valued entirely differently through a bank valuation. For example, consider two apartments with the exact same floor plan and finish on the same floor of an apartment building, valued on the same day by the same bank but via two separate valuers on the bank’s valuation panel.
One valuation comes back with an indicative property value of $410,000, while the second one returns a valuation of $360,000. The vastly different valuations ultimately come down to the subjective nature of market valuation, dependent on the individual valuer. This can seriously impact property owners, particularly those looking to invest in property through their self-managed super fund.
The impact of valuations on the property market
Low bank valuations can have devastating impacts on a borrower or buyer. We take a look at some of the impacts below:
Needing to pay lenders’ mortgage insurance
A valuation that is lower than the true estimated property value can trigger the need to pay lenders’ mortgage insurance (LMI). If the bank valuation results in a market value lower than expected, it ultimately can affect a borrower’s loan-to-value ratio (LVR). Typically, if a borrower needs to borrow more than 80% of the property’s value, then LMI is required.
To make matters worse, a lender will generally always work on the lowest valuation they have on file; once a valuation is in, if it is unsuitable, a borrower may be forced to go to another lender and hope a different valuation company is selected to value the property. Individual circumstances may limit the number of lenders a borrower can use.
Even when a valuation comes back on the contract price, the valuer may have decided to rank it ‘5’ for risk on one of the eight valuation categories, which may deem the property unusable as collateral for some lenders or reduce the amount others are willing to lend against it.
This one is crucial for anyone with tight servicing for an investment property; even if real estate agents are advertising the property for a set rent per week, a valuer may disregard the rental market value in terms of yield and instead focus on comparable properties or similar property sales. This is where the bank valuation vs market value of an investment property can come unstuck — even more so if the property is a house and land package!
For the purposes of using the projected rental yield in servicing calculations on the investment loan or SMSF loan, some banks may use the valuer’s determination of expected rental income vs what is reasonable to expect in the current rental market.
What to do about unfavourable market valuations
Theoretically, a property valuation can be argued if mistaken, but in practice, it can be time-consuming with no guarantee of favourable outcomes. At SMSF Loan Experts, we’re in your corner, and we have successfully challenged valuers on several occasions however, it is a complicated process.
Raise additional funds through other means
If a low valuation reduces the amount that can be borrowed, depending on the borrower(s)’ circumstances, there could be other means to raise the funds needed for settlement.
Use a professional valuer
A few select SMSF lenders (including for residential SMSF loans) will let you select a lender from their panel to complete the valuation. Using a professional valuation company means that you may be able to avoid the subjectivity of an individual’s personal opinion, and instead access a pool of qualified valuer’s expertise that focuses on objective property information, recent sales, and an appreciation for the current market and market conditions.
How do property values affect my SMSF investment?
For SMSF trustees who invest directly in a commercial or residential property, the market value of the property can impact their fund in a number of ways, including:
1. The LVR of their SMSF Loan
As we mentioned above, the LVR of an SMSF Loan may be impacted by a property’s valuation, which may impact the fund’s suitability to borrow money under a limited recourse borrowing arrangement (LRBA).
2. SMSF financial reports and audit
The estimated value of a property is required as part of the annual valuation of an SMSF’s financial accounts and statements. Property valuations are also recommended by the Australian Taxation Office (ATO) every three years or when significant changes have been made to the property or changes in market conditions.
3. Returns for members
Understandably, SMSF investments are made to provide a financial return for the member’s retirement savings. A lower asset valuation may lead to lower returns for SMSF members.
4. Asset allocation and the SMSF investment strategy
The SMSF investment strategy sets out how the fund’s assets are to be invested in line with the fund’s objectives. Part of the investment strategy is outlining an appropriate asset allocation. A lower valuation on a property could result in the fund effectively being ‘underweight’ in property assets or misaligned with the fund’s intended asset allocation.
Getting the best value from your SMSF property investment
To help you get the most from your SMSF property investment experience, the team at SMSF Loan Experts come with an extensive history and background of helping SMSF trustees set up the right lending structures for their property investment objectives.
We work with other industry professionals and have experience and insight with many different lenders, including the property valuation process. Let us help you — enquire now or make the call to our team today!