Editor’s note: This is the first in a two-part series.
The two most important pieces of information mortgage applicants should have in entering the market is their credit score and the appraised value of the property they are interested in buying. The first is easy; they can get free estimates on the Web, or buy their score for $25 or so. When they apply to a lender, one of the first things the loan officer will do is pull their credit online, which takes only a few minutes.
Appraised value is another matter entirely. It has to be ordered by the lender after the borrower has applied for the loan. In most cases, the order goes to an appraisal management company (AMC), which selects the individual appraiser who does the work and delivers the appraisal report to the AMC, who delivers it to the lender, who delivers it to the applicant.
This clumsy process, largely dictated by regulation, imposes heavy costs on borrowers relative to a system in which borrowers order their own appraisals from AMCs. This article describes the costs of the current system relative to the alternative, which would not be difficult to implement.
Multiple appraisals: Borrowers pay for the appraisal, but it carries the name of the lender who ordered it. For all practical purposes, the appraisal belongs to that lender because the borrower cannot use it with another lender. While nothing prevents borrowers from purchasing appraisals on their own, lenders will not accept them, which means that they will have to pay for a second appraisal when they apply. And if by chance they decide that a lender other than the one they selected initially is the one they want, they will pay for (and wait for) still another appraisal.
In the alternative system where borrowers order appraisals, one appraisal could be used with any number of lenders within the 120-day validity period specified by current regulation.
No early screen on loans that don’t work: In the existing system, consumers are denied the opportunity to see the appraisal when it will do them the most good: before they apply for a mortgage. In many cases, having the appraisal early on would save the consumer from a bad decision, such as applying for a loan for which they cannot qualify or which is too costly to pursue because the property value is insufficient. This is not a rare occurrence, and when it happens it wastes the lender’s time as well as that of the applicant.
In the alternative system where borrowers order appraisals, they would be ordered before applying for a loan. This would avoid the costs incurred when a low appraised value aborted a transaction.
Long loan process: Because appraisals are not ordered until the borrower has selected the lender, the loan process is extended by the time required for the appraisal. This is a minimum of 12 days. If the appraisal delays the transaction to the point where the rate lock expires, the borrower is exposed to a possible rise in market rates.
To avoid that risk, I advise refinancing borrowers to lock for 45 days instead of the 30 that was common before the financial crisis, and purchasers to lock for 60 days instead of 45. This 15-day increase in the lock period can cost as much as 1/4 of a point — or $500 on a $200,000 loan. This cost of appraisal-induced delays is like a tax imposed on every borrower.
The alternative system where borrowers order appraisals would eliminate the tax.
Damper on shopping: Lender-specific appraisals dampen the ability or willingness of mortgage borrowers to shop, which is hard enough without it. The disclosures that government requires lenders to provide applicants are supposed to protect borrowers by making it easier for them to shop. However, borrowers don’t receive the disclosures until after they have applied for a loan and paid for an appraisal. For a borrower to withdraw at this point in order to begin again with another lender is difficult under any circumstances. The certain knowledge that doing so will require another appraisal fee makes it doubly so.
Next week: How a switch to borrower-ordered appraisals will impact the price and quality of appraisals, and the independence of appraisers.
The writer is professor of finance emeritus at the Wharton School of the University of Pennsylvania. Comments and questions can be left at www.mtgprofessor.com.
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