Formal valuations are often wrong and relying on them can lead to a loss of capital. On the other hand it is vital that investors have an accurate understanding of the value of the security being offered before they proceed with a loan. This is the valuation paradox.
The reason valuations are often wrong is because fees are so low that valuers cannot afford to spend the time needed to do a proper job. When you add to this the fact that many valuers are, like all professionals occasionally negligent you have a recipe for potential disaster.
The solution is to never rely on a valuation. Instead the successful private mortgage investor uses valuations as a starting point for their own due diligence into the value of a property.
Valuations typically use the comparative sales method. This means the valuer looks at the recent sales evidence in the area and guestimates whether the subject property is inferior or superior to those other properties that have recently been sold. The problem with this is that often the valuer did not have time to visit all the comparable properties he relied upon in his report when he briefly visited the area. The astute investor will therefore visit the comparable properties cited by the valuer, as well as others suggested by the local real estate agents and make an independent judgment.
Most valuers in Australia have exclusions in their professional indemnity insurance policies that specifically prohibit them from carrying out valuations for private mortgage investors. Accordingly most valuations a private investor receives from a broker will be addressed to a specific bank or banks not to the investor. This means if the valuation is wrong the valuer cannot be sued by the investor. This makes it all the more important that investors do not blindly rely on valuations but rather they do their own homework.
Investors who are tempted to loan in areas where it is impractical for them to visit tend to come undone, sooner or later. They will want to blame the broker, the valuer, their solicitor, or the real estate agent who they spoke to on the phone, but none of this will stick, either legally or morally. This is because if they lend against a property site unseen they will have no-one to blame but themselves. It is no different to buying real estate site unseen.