This article was originally posted on LinkedIn by Josh Walitt.
In July 2019, I spoke to the Collateral Risk Network, a group of chief appraisers, risk managers, management companies, lenders, appraisers, regulators, and legal experts, at the Collateral Matters event in Reston, Virginia. My talk focused on Property Inspections, which – to an outsider – might seem to be a straight-forward topic. However, given current changes in the valuation space, nothing is further from the truth: valuation, specifically the collection of data that supports a valuation method, has never been one-size-fits-all.
Is this so-called “new” process new at all?
During my presentation, I reviewed with the audience a number of appraisal scenarios that have been common practice for decades – often in spaces outside of first mortgage lending. So, with the changes in the first mortgage space, I asked the audience to consider several questions, when examining the varied face of property inspections that are currently in practice in the overall valuation profession.
- Are these “other” inspection-and-valuation processes appropriate for lending?
- Are there certain lending-risk scenarios – related to credit, employment, income, and loan-to-value – that might allow (or preclude) the use of these varying types of inspection processes?
- Do the Uniform Standards of Professional Appraisal Practice (USPAP) and the Interagency Appraisal and Evaluation Guidelines (IAEG) allow such processes?
- Have the requirements of the Uniform Residential Appraisal Report (URAR, form 1040/70), the standard lending appraisal form since 2005, become so ingrained in valuation practice that valuers cannot imagine following other processes?
As way of background: currently, many banks hire appraisers to perform desktop appraisals, where the appraiser relies on photographs and information collected by other parties; this process is sometimes referred to as “bifurcated.” As illustration, when the bank orders the appraisal from the appraiser, the bank provides the inspection report to the appraiser, which shows various photographs as well as the answers to questions about the physical and locational characteristics of the subject property; using that data, the appraiser evaluates the condition and characteristics of the subject property and then proceeds with the valuation process under the assumption that the provided data is correct (unless known otherwise).
GSEs (Government Sponsored Enterprises, including Fannie Mae and Freddie Mac), in their current modernization initiatives, are piloting instituting these types of “bifurcated” data-collection processes. The current pilot of the 1004P form has caused anxiety among appraisers, regulators, investors, and others, opening conversations regarding which data collection process is “right” for lending valuations. But is this so-called “new” process really new at all?
Here are several of the scenarios I asked the audience to contemplate:
The appraiser determines physical characteristics of the subject structure from limited-data county records, recent family photos showing two rooms, and a 15-year old appraisal.
- While this scenario is commonly performed for insurance valuations (think: burned-down property), it is likely that most parties agree this data set would not be adequate for a first-mortgage lending assignment, in terms of establishing as-is condition and limiting risk to safe and sound lending. Nevertheless, it reminds us of the broad spectrum of scopes of work possible in appraisal practice.
The appraiser relies on a diagram and descriptions to determine the physical characteristics of the residential structure.
- This type of data-collection is not uncommon; in fact, appraisers regularly rely upon plans and specifications supplied by builders and borrowers to use a hypothetical in valuing the property “as-if” already fully built. In this way, we see that appraisers regularly use data that is sourced from non-appraisers. (In fact, many current data sources used by appraisers are often maintained by non-appraisers, such as MLS, county databases, etc.)
The appraiser personally views the subject from the street.
- This scenario is also not uncommon, often written on the Exterior-Only Appraisal Report (form 2055) or other proprietary bank forms. This data-collection process gets the appraiser to the property (at the street) and the appraiser then makes assumptions about the interior based on observing the exterior (think: the exterior appears to be in well-maintained condition, so I assume the same for the interior). If this scenario is already a recognized data-collection process for lending assignments, is it much of a stretch to use data supplied by an individual who is trained for data collection, but who is not the signing appraiser?
The appraiser personally views the subject from the street, performs an as-is appraisal and an as-remodeled appraisal, and issues a report with two value opinions.
- For banks that provide so-called “fix-and-flip” financing, asking for two value opinions in one appraisal report is commonplace. Depending on the risk scenario for the transaction, the bank might allow an exterior-from-street viewing or opt for the more-detailed interior-and-exterior inspection. Some banks require the signing appraiser to perform the inspection, while other banks allow another party to perform the property data collection. Again, while these inspection-then-valuation scenarios might seem “outside of the box” to appraisers and regulators whose experience includes only the standard URAR scope of work, these alternative scopes may seem “new” – despite being in practice for decades.
A determination must be made whether appliances and utilities are functional and/or whether the property meets local codes.
- While rather specific, I point to this scope requirement on certain appraisals (mainly associated with FHA appraisals) to reinforce the central question to my presentation: Simply because a certain data-collection process is performed for one group of appraisals, does that mean that same process is then required for all other appraisals? In other words, the scope and method of inspection for appraisals can legitimately vary from appraisal type to appraisal type: just because we do a “full” inspection on some, does not mean that same “full” inspection is necessary for all.
The appraiser relies on a non-appraiser to measure and collect subject property data.
- At first glance this might seem I am describing the “new” GSE process being piloted (in fact, it does). However, I included this scenario in my presentation not because it was the GSE pilot process, but rather because it is the ordinary process found in many county assessor offices: a non-appraiser is tasked with the collection of property data, to be used in the appraiser’s analysis. Any time an appraiser chooses to rely on data, the appraiser must determine if there is any reason to mistrust the information; so, the training, expectations, and scope of the inspectors should be understood by the appraiser, in order to properly understand and communicate what assumptions were made.
The appraiser relies on a property condition report issued by a property inspector; the appraiser relies upon the information to develop and report an as-is value opinion.
- For 203K appraisals, an individual performs an inspection of the subject property for HUD or the lender as a separate order from the valuation assignment. For the valuation determination, the property condition report may then be provided to the appraiser, after evaluating and prioritizing foreclosure and listing strategies. This HUD scenario, although certainly not identical to GSE pilots or other current bank bifurcation processes, offers another window into procedures that include a decisioning step between the inspection and the valuation.
An appraiser performs an Exterior-from-street appraisal and reports a value opinion of $500,000; the next week, she performs a Exterior-and-Interior appraisal on the same property and reports a value opinion of $630,000.
- While this type of situation may seem entirely bizarre to those outside of valuation and lending, both value opinions may be credible (ie, worthy of belief) based on their different scopes of work. For example, in the exterior-and-interior inspection assignment, the scope of work may have revealed greater upgrades, a better condition, and or a larger size than considered in the exterior-from-street assignment. If prepared and communicated properly, neither of the reports is necessarily “wrong” or “right”. The issue becomes a question of precision: if the risk factors of the transaction and borrower are low (ie, considering loan-to-value, credit, and income), what level of precision for the valuation does the lender need?
An appraiser who lives on Grand Cayman performs appraisals and appraisal reviews on properties located in Denver, Colorado.
- While we might all dream of living on a tropical island and performing various types of desktop services, relocating to a tropical destination may not be in the cards for most people. However, this scenario does point to the fact that competency is not necessarily tied to the appraiser’s distance from the subject property. For example, can an appraiser be competent from a town away, a county away, a state away, or across the country? An appraiser can be competent in all of those situations, as long as he has access to the appropriate data sources, expertise in the type of property and assignment, and knowledge of the market. The separation of the inspection process from the valuation process could lead to appraisers gaining competency in various areas.
As the lending appraisal process modernizes, better valuation solutions will step forward, to better meet the needs of clients, in compliance with the USPAP and IAEG. A client determining to use one process over another will be decisioned based on risk factors, such as loan-to-value, credit, income, prior valuations, and market trends.
The GSEs’ and clients’ reliance on varying valuation solutions is pushing the valuation community to provide expanded lending valuation services, beyond the historical one-size-fits-all 1004 model.
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