Real Estate Finance Alerts

Do You Want To Play Appraisal Roulette?

Fannie Mae and Freddie Mac Appraisal Policy Changes

Fannie Mae and Freddie Mac completed an agreement with OFHEA, the Federal entity that regulates them, and the NY Attorney General, to adopt new appraisal policies effective 1/1/2009.  The agreement implements the Home Valuation Code of Conduct in an effort to eliminate mortgage fraud related to the appraisal process.  The code essentially requires that all lenders order all appraisals through independent third party appraisal companies and specifically forbids any communication between the lender and the appraiser.  While I agree with the need for improvement in this area and with many elements of the Home Valuation Protection Code, its implementation will result in several negative outcomes.  Nearly every adverse impact resulting from implementation of this policy change will significantly increase lending costs for borrowers.  Additionally, small markets will experience a disproportionate adverse impact compared to larger real estate markets.  Without any communication with the appraiser, borrowers, real estate agents, and lenders will feel as though they are playing Appraisal Roulette.

First, most national appraisal companies charge $100 to $150 in addition to the appraiser fee.  If we assume appraisers keep their fees the same, then borrowers will pay the additional cost.  Additionally, national appraisal companies can easily add a week or more to completion time of an appraisal and will require borrowers utilize longer rate lock periods.  The cost of longer rate locks or rate lock extensions can easily be $125 to $250 per hundred thousand dollars of the loan for each additional week.  For faster service, national appraisal companies usually charge a $100 to $200 fee.  Using a national appraisal service can easily add $500 to $1,000 or more to the cost of a loan.

Second, both the Home Valuation Code of Conduct and the national appraisal companies forbid appraisers to communicate directly in any way with the lender or any other third party.  I feel appropriate communication with an appraiser is extremely valuable and significantly lowers lending costs.  Appropriate feedback from appraisers can alert lenders to many situations where a loan will fail due to appraisal issues.  For example, the lack of available comparable sales data, even in a stable market, is significant as underwriters increase requirements for recent comps with smaller adjustments.  In addition, if a sales price or the value expectation of an owner looking to refinance is unrealistic, the appraiser can communicate the potential for a problem prior to completing the full appraisal.  Without any feedback from appraisers, the number of loans that do not fund due to appraisal issues will definitely increase.  Borrowers will pay for unnecessary appraisals while originators and lenders will expend unnecessary and costly time processing loans that will never fund.  The result will be higher fees for underwriting services.  It is not reasonable to expect lenders to identify potential appraisal problems since that is the expertise of appraisers.  In fact, many appraisers currently do not charge for their time if they do not complete an appraisal.  However, if lenders ask appraisers for order reviews to identify potential problems but must use another appraiser to complete the appraisal, appraisers will have to charge for that service.  Again, borrowers will pay more as a result.

Third, the Home Valuation Code of Conduct requires all lenders utilize a group separate from the loan origination process to manage all appraisal aspects.  The group must be specifically trained, establish and monitor a hotline and email address for complaints, conduct quality control testing of 10 percent of the appraisal and report the results to the Independent Valuation Protection Institute and any relevant regulatory bodies.  Again, while I agree with the need for more oversight and enforcement, I think it would be more appropriate for Fannie Mae to determine eligible appraisers and for either Fannie Mae or a government agency to be responsible for complaints and conduct quality control audits for loans to meet Fannie Mae guidelines.  In the end, regardless of who performs this function, borrowers will end up paying for it through higher lending costs.

Finally, small markets will experience a disproportionate adverse impact compared to larger real estate markets for several reasons.  Larger markets like Denver have many qualified appraisers, a large amount of sales data, and, in general,  similar comparable sales due to the fact that many subdivisions contain homes of similar style and age on similar lots with similar views.  However, that is not the case in smaller markets where most homes are custom built and few typical subdivisions exist.  The result is comparable sales with large variability of home age, size, style, finish, and quality where land size, grade, view, and appeal vary greatly.  In these areas, experience and knowledge of the market are requisite for completion of appraisals that lenders will accept.  Yet, too many appraisers who do not have the requisite experience and knowledge and do not understand the nature of these markets, some from far outside the area, are still eligible to complete appraisals in these areas with national appraisal companies.  The result is that you can have appraisers actively seeking to drive far outside their regular territory to complete appraisals.  Unfortunately, due to the slowdown in real estate, too many appraisers try to keep busy and take on appraisals they are unable to complete effectively.  The response to these concerns that the national appraisal companies will maintain quality rings hollow as these companies currently utilize appraisers like this to try to cut costs and meet timelines.  Moreover, it will take multiple failures and subsequent complaints, about a very subjective matter no less, to remove poor appraisers from any company.  How many borrowers will be unable to purchase property or unable to realize monthly savings from a refinance or perhaps have to pay for additional appraisals? 

In theory, every appraiser should reach a similar appraised value.  In reality, this is just not the case.  The fact that the Home Valuation Code of Conduct exists proves the point.  However, the current proposal will result in significant and many unnecessary cost increases for borrowers.  Additionally, it puts responsibility for quality control on the very lenders who many people claim created the current problems in the first place.  Finally, if the problem of appraisal fraud and coercion warrants regulatory changes, why exclude nonconforming loans and not extend the protection to all homebuyers?  I believe establishing specific prohibited acts or requirements and empowering a government agency to vigorously investigate and pursue violations through imposition of specific penalties is the best solution to the problems.  Regulation X of The Real Estate Settlement Procedures Act (RESPA) is a proven policy that does just this. 

You can see that the Home Valuation Code of Conduct will result in several negative outcomes, significantly increase lending costs for borrowers, and have a disproportionate adverse impact on smaller markets.  Amending RESPA to prohibit specific acts and provide enforcement and penalties will protect all buyers, appraisers, and lenders equally.  It will also eliminate fraud/coercion and still allow appropriate communication between parties while it minimizes any increases to lending costs without creating yet another layer of regulation from yet another two entities with even more unintended consequences. 

Please post your concerns before April 30, 2008, if any, regarding the implementation of this new policy at the following link:
https://www.ric-surveys.com/se.ashx?s=7205300750A3F19F