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There goes the neighbourhood ... and the cheap loan

As valuations are dragged down by a stagnant market and forced sales, homeowners hoping for a good deal when they remortgage may be in for a shock.

Homeowners looking to remortgage could be facing valuations 30 per cent lower than their homes were worth in autumn 2007, when the market was at its peak – even though average prices have only fallen by around 15 per cent during this time. This harsh reality was revealed last week by Energy Reports and Surveys (ERS), the valuation arm of conveyancing giant LMS.

The widening gulf between homeowners' price expectations and the reality is down to growing numbers of forced sales or repossessions, which are pushing down estimates of what all homes are worth, says ERS managing director Paul Staley.

"To achieve a valuation for mortgage purposes, a valuer is required to take several factors into account: the area; the size and type of the home; and the guide sale price they have been given or the last valuation. But valuers will also need to find three comparable properties and what they recently sold for. And as there is virtually no activity on the open market, forced sales and repossessed homes being sold at auction are being thrown into this basket of averages," Mr Staley said.

Repossessed homes are currently selling at up to 50 per cent less than their peak value, which means valuations on open-market homes are being dragged down by up to 30 per cent – a lot more than most homeowners are prepared for.

Mark Blackwell, sales director at xit2, a data-management firm for the property industry, reports that the lack of comparable homes sold recently makes this market one of the toughest ever for surveyors. "They are finding there is little to back up their local judgement, and where the nearest benchmark is a repossessed home sold at auction, the considerable discount is putting other property values out of kilter." He adds that this is happening all over the UK.

One look at the most recent property market figures and it's easy to understand how "standard" valuations can be so skewed. Estate agents sold an average of 10.9 homes in the three months to October, according to the latest housing report from the Royal Institution of Chartered Surveyors, which equates to little more than a dismal three a month. But the Council of Mortgage Lenders says repossessions are set to rise by 50 per cent this year.

Compounding the problem of pessimistic estimates is that valuers are erring on the side of caution as they expect prices to slide further, adds Mr Staley at ERS. "When the market is going up, surveyors factor in these rises and give a generous valuation. But, of course, the same happens in reverse when the market is falling.

Ballooning repossession figures are becoming an issue for other sets of property statistics too. The Government's Land Registry figures, which are based on completed sales of homes, have been criticised as they exclude repossession sales at auction on the grounds that they do not reflect the "full market value" of the property.

Other house price indices, such as those from Nationwide and the Halifax, are based on approvals of mortgage valuations. These will factor in homes repossessed or sold quickly at auctions, as the valuation requires this "basket" of comparables.

As a result, the Land Registry figures published on 28 November showed a 10.1 per cent annual fall in prices across England and Wales – considerably healthier than the indices from Halifax and Nationwide, which revealed prices dropping by 15 and 13.9 per cent respectively.

A lower-than-anticipated valuation can have a big impact on homeowners' remortgage choices and may even put a new deal out of their reach. Andrew Montlake, partner at broker Cobalt Capital, says: "The biggest issue of a low valuation is that homeowners looking to remortgage may not get the rate they thought they would.

"Since the last time they may have remortgaged, lenders have gone on a 'flight to quality' and now employ three main tiers of loan to value (LTV). The cheapest deals are below 60 per cent LTV and then there is a 60 to 75 per cent tier and a 75 to 85 per cent tier. If your home is downvalued, your LTV will go up and may place you in the next bracket."

Ray Boulger, senior technical manager at broker John Charcol, says the most significant threshold to cross is the 75 per cent LTV. "As well as the interest rate you pay becoming considerably higher at this point, some types of deals – such as two- and three-year fixed rates – are no longer available with some lenders."

But if you don't qualify for your chosen mortgage with a new lender, at least you will be armed with a realistic valuation when it comes to knocking on the door of another bank.

If your mortgage valuation pushes you above 90 per cent LTV, it's highly unlikely any new lender will want your business. That said, though, it's now a lot less painful to stay put and revert to your existing lender's standard variable rate. If you are with Nationwide, for example, the current SVR is 4.69 per cent – so low that the lender announced last week it would not make any more mortgage offers based on this rate. Existing customers due to revert to its SVR at the end of their deal will still be able to do so.

As well as finding new deals, managing valuation expectations on behalf of clients is becoming a more important role for mortgage brokers, according to Mr Boulger.

"Clients often come in with hazy ideas of what their home is worth," he says. "They may base their knowledge on a valuation they received from an estate agent last month, for example – but find that actually it's 10 per cent under this.

"Basically, even homeowners who have carried out research on house prices, and factored in what would seem an appropriate fall, could still find that their final valuation is a lot lower than they thought."