For What It’s Worth
Myth or reality, it’s widely held that real estate–including developers, home builders, brokers, and, of course, lenders–hi-jacked home appraisals for a few years BHC [before the housing crisis]. Easy money and Ponzi-dynamics rewarded all comers, and punished almost no one.
That is, except those who may have felt they left money on the table rather than in their pockets.
Appraisals fell somewhere amid a keiretsu-like quid pro quo complex, train-linked to the juggernaut of home price appreciation. With each new phase of a subdivision, market demand driven prices escalated, and banks approved greater and greater loan amounts based on higher appraisal amounts, supported–in Catch-22 harmony–by higher comps… All for parity products in the same submarkets.
For as long a period of time as there were greater fools pouring into the homeownership pipeline, everybody collected. The rules were simple: Make more money.
In enough cases to keep NY State Attorney General Andrew Cuomo’s office busy for more than a year investigating mortgage frauds, home builder/developers’ preferred or owned lenders muscled appraisers into writing numbers that inflated home values, stretched home buyers into loan territory they never should have taken on, and, inevitably, stressed the financial system with debt no one will ever repay.
The truth of the story makes it a classic case of rotten apples, and what needs to be done about them immediately. There are always rotten apples. Just one or two will work like a contagion in a big basket of apples.
Here’s an investigative piece about real estate appraisers who are the bad apples, from The Center for Public Integrity’s Joe Eaton:
A Center for Public Integrity investigation of the appraisal industry in California and Florida, two of the states hardest hit by foreclosures, found that since 2005, one in six appraisers whose licenses were revoked or surrendered kept their real estate sales or broker’s licenses. The violations that led to these appraisers losing their licenses ranged from simple incompetence to fraud committed for personal financial interest. Yet they slipped through the cracks of a loosely maintained system of state oversight, which allowed them to continue working in the real estate industry negotiating sales to home buyers, who likely know little about their pasts.
Equally, bad apples showed up elsewhere in the lending pipeline. Sometimes, it was mortgage originator, sometimes it was a home builder sales manager under pressure to make a monthly bogey during the boom. They bend the rule, and then they bend it a little more.
Bad apples are inevitable. Our cautionary tales in business, however, have not only to do with bad apples, but with accountabililty around them. If there’s a bad apple in our midst, or more importantly, reporting through to our own management, who “owns” the consequences of his or her actions?
Big Builder editor Sarah Yaussi probes the impact of regulators’ new initiatives to right the wrongs in the home appraisal system in her “Appraisal Angst” cover story in the current issue of the magazine.
The code, which went into effect May 1, was borne from an agreement between Fannie Mae, Freddie Mac, the Federal Housing Finance Agency (FHFA), and New York attorney general Andrew Cuomo. It forces lenders who want to sell their conforming loans to Fannie Mae and Freddie Mac to follow new rules designed to ensure greater appraiser independence and more honest home valuations.
However, home builders and other critics have complained that the code is overcorrecting for boom-time sins, turning home price inflation into deflation. Backlash from the new code has grown shrill enough to reach ears on Capitol Hill. On June 25, Reps. Gary G. Miller (R-Calif.) and Travis Childers (D-Miss.) introduced H.R. 3044, a bill that would place an 18-month moratorium on the new code.
Cuomo and the regulators are setting themselves up as the heroes. They would have us believe that all of residential real estate is a basket of infected apples, the villains indistinguishable from the perpetrators.
In correcting a deficiency, policy creates new problems, and those problems redound directly to those who are trying to sell homes, new and used.
The two big stumbling blocks now are, what else? time and money.
Money, because new homes are getting comped with used homes slogging through foreclosure absorptions. Appraisers take a square-foot-is-a-square-foot-is-a-square-foot attitude toward a submarket, whereas a seller will be quick to say his 2,200 sq. ft. place is night and day different from that of a 2,200 sq. ft. foreclosure sale that may have been damaged and vacant for six months.
Time, because these days, a fair number of deals hang in the balance of coming through when they’re expected to by the owners, or falling through altogether.
We’ve seen home builders hold the swimming pool, hold the granite counter tops, hold the “better” window set as they draw toward the finish line to deliver a new home. That’s because they don’t know until the appraisal comes through what the home in that location is going to get bank approval for.
Here’s wisdom from a friend on the issue:
The more I think about the whole appraisal issue the more I recognize that it is fundamentally flawed and needs to be completely rethought. It’s not merely an issue of whether or not foreclosure sales should be counted among comparable sales. The fact is that the intrinsic flaws were not really obvious or serious while the market was strong and growing for the last fifteen years or so. But now , using appraisals as they are presently conducted as the only basis for determining house value is totally inadequate. The analysis of the various comparable sales is far too simple and does not properly identify the components that create value, i.e. a kitchen can be worth $10k or $100k, but that level of detail is not part of an appraisal. Also, most appraisers’ qualifications are inadequate to complete the quality of appraisals that are required, not are they properly compensated. How much time and effort can somebody expend when the fee is less than $500.00. Replacement costs, propely discounted, have to play a bigger role, and the parties (sellers, banks etc.) have to have more transparent roles/opportunities to contibute to the valuation process. It’s going to be very difficult to change the system with all of the entrenched interests.
Difficult is right.
Still, one of the hardest things to change is what happens when there’s a bad apple in the basket.
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