A Status Report on Legal Claims against Residential Appraisers in 2009

By Peter Christensen, General Counsel, Liability Insurance Administrators

Troubled loans and borrowers mean more lawsuits against appraisers.  Thus, in 2009, claims against appraisers remained at the same record levels as in 2007 and 2008.  Beyond this high level, as a provider of E&O insurance to more than 25,000 appraisers, Liability Insurance Administrators (LIA) observed several new claim trends affecting residential appraisers in 2009. 

Overvaluation Claims by Borrowers.  Borrowers – regardless of the fact that they are not the intended users of most reports – are filing a majority of the claims against appraisers.  These claimants are mainly homeowners or speculators who purchased or refinanced properties at the peak of the real estate bubble in 2005 through 2007.  Most of their claims fit a common pattern: borrowers typically allege that they borrowed or paid too much because the appraisal overstated a property’s value and often accuse the appraiser of conspiring with the lender to make sure the loan would close.  There is always more to the story, however.  It is typical for us to discover that the lender overlooked its underwriting guidelines or the borrower’s inability to pay or that the borrower lied to get the loan.  Or, the borrower never looked at or considered the appraisal until his lawyer started coming up with parties to sue.

Undervaluation Claims by Borrowers and Sellers. A noticeable new trend involves demands and complaints that appraisers have undervalued properties. These claims are usually made soon after the delivery of a report and are often intended either to intimidate appraisers to change valuations or simply to strike back.  Claims that appraisals are too low recently have made up about a third of the claims from borrowers. 

A typical scenario for this type of claim involves a homeowner seeking to refinance on a property purchased in 2005 or 2006.  The appraiser accurately reports a value that in many cases is 20% to 30% less than what the homeowner paid. When the loan officer informs the homeowner that the loan cannot be made and provides the appraisal (as required by the HVCC), the next thing we see is a demand letter from the homeowner or a lawyer threatening to sue the appraiser and/or report the appraiser to the state.  Often, we will also see a threat that if the homeowner does not obtain the loan he wants, he will sue the appraiser for the interest that the homeowner theoretically would have saved if the appraisal had come in higher and the homeowner had received his or her desired loan.

A closely related trend involves an increased number of undervaluation claims filed by property sellers (and sometimes their real estate agents).  Here, these parties claim that an appraiser’s lower than expected appraisal either caused them to lose a sale when a buyer backed out or caused them to concede to a lower sales price.  They typically demand that the appraiser make up the “lost profit.”

We see almost all of these claims about undervaluation for what they are: frivolous.  We also take them as an indicator that appraisers are doing their job and providing accurate information to their lender clients.  If residential appraisals are a bit more conservative than a few years ago, appraisers cannot be blamed for that. This is the result of a deflated bubble, new appraisal rules, and thousands of lawsuits and administrative complaints filed against appraisers by lenders and borrowers blaming appraisers for loan losses.

FDIC Claims.  A more disturbing trend that emerged in 2009 involves the FDIC.  We are seeing many demand letters and lawsuits from law firms working for the FDIC in connection with its takeover of failed banks.  The FDIC has so far seized about 120 banks in 2009.  In most cases, when the FDIC takes over a bank, the banking assets and deposits are sold to another bank.  In its sale agreement, however, the FDIC retains the right to pursue claims and lawsuits in the name of the failed bank.  Accordingly, the FDIC has hired panels of private law firms to review bank records looking for possible lawsuits to file against officers, directors, accountants, appraisers, etc. in an effort to blame them for causing the failed bank’s losses and to recover funds to replenish the FDIC’s coffers.  One thing that stands out about these claims is that the FDIC’s private lawyers often pursue cases with over-the-top zeal – as if wearing the shiny badge of a newly appointed sheriff.  We are hopeful that the FDIC will ultimately realize that over-lawyered lawsuits against appraisers blaming them for irresponsible lending decisions by the likes of WaMu, Indymac and Downey Savings are a waste of its funding.

The scariest thing about FDIC claims for a few appraisers is that some E&O insurance policies (but not any issued by LIA) exclude coverage for claims by the FDIC and other regulatory agencies.  Thus, we would advise appraisers to contact their insurance providers to confirm that no such exclusion exists in their policy.

Claims Involving Trainees and Independent Contractors.  About 25% of the claims we see against appraisers have some tie to work or assistance provided by trainees.  A large number of additional claims relate in some way to work performed by independent contractors.  It’s very important that if an appraiser has ever used or now uses trainees or independent contractors, the appraiser should review his or her E&O coverage with his provider to make sure there is coverage for claims that may arise from the supervision of work by others.  Many policies sold to appraisers contain an exclusion of such claims (policies issued by LIA do not contain such an exclusion).
           
There is some good news from the claims environment in 2009.  First, most of the claims we see are defensible.  With experienced and knowledgeable defense counsel, we find that the claims are manageable and can often be defended without any liability.  Second, though the volume of claims is high, the volume does not appear to be increasing to even higher levels.  We are slowly winding our way through the problems created by irresponsible lending practices at the peak of the bubble.  As we get further away from that time, we are hopeful that we’ll start seeing a decline in the number of new claims. 

Peter Christensen is the general counsel of Liability Insurance Administrators (LIA) in Santa Barbara, CA, www.liability.com and www.appraiserlawblog.com.  LIA provides E&O insurance to 25,000+ appraisers in all 50 states and has been endorsed by the Appraisal Institute since 1991.