Editor’s note: this story has been edited to correct that Washington Mutual, not Wells Fargo, was accused by New York Attorney General Andrew Cuomo of hand picking appraisers. Neither WaMu or Wells Fargo are named in New York’s lawsuit against First American Corp. and its subsidiary eAppraiseIT, which have denied the allegations.

An increasingly common complaint of Realtors — that "lowball" appraisals below agreed-upon sales prices are derailing many home sales — has been taken up by industry trade groups.

The National Association of Realtors and the National Association of Home Builders have both identified issues surrounding appraisals as a factor putting a damper on sales of new and existing homes in May — the first month new rules governing appraisals conducted on loans slated for purchase by Fannie Mae and Freddie Mac took effect.

NAR has asked the regulator that oversees Fannie and Freddie to suspend the rules for 18 months, saying they may not be working as intended.

Although existing-home sales picked up slightly in May — posting the first back-to-back monthly increases since the fall of 2005 — the 2.4 percent increase was less than would have been expected from a previous rise in pending sales, NAR says.

Many contracts fell through in May because of "faulty valuations" that kept buyers from getting a loan, NAR Chief Economist Lawrence Yun said when the group released the latest numbers on sales of existing homes.

Stories of appraisal problems "have been snowballing from across the country," he said. Some lenders may be using appraisers who are unfamiliar with a neighborhood, or who compare traditional homes with distressed and discounted sales, Yun said.

Sales of new homes were virtually flat in May, and one of the factors limiting sales was the use of foreclosures and short sales as "comps" and the affect on appraisals of nearby homes, NAHB said.

NAHB is calling for new guidelines for appraisals of properties in areas with large numbers of distressed properties, that would include giving appraisers the option of expanding the geographic area or time frame for eligible sales to get a more representative take on home sales in the area.

Because appraisers can’t inspect the interiors of many properties that are used as comps, they may not be aware of maintenance issues or damage that are common with foreclosed properties, NAHB said. The failure to adjust comparable values of foreclosed and distressed homes often results in the undervaluation of new homes, the group maintains.

In a June 22 letter to the federal regulator that oversees Fannie Mae and Freddie Mac, NAR placed much of the blame for problematic appraisals on the Home Valuation Code of Conduct — new rules governing appraisals conducted on loans slated for purchase by Fannie and Freddie that went into effect May 1.

The code

The code, which applies only to loans to be purchased or guaranteed by Fannie Mae and Freddie Mac — and not jumbo loans, FHA or VA loans — was intended to protect appraisers from pressure by lenders to hit predetermined values. The code grew out of a lawsuit by New York Attorney General Andrew Cuomo alleging that an appraisal management firm allowed lender Washington Mutual to hand-pick appraisers (see story). …CONTINUED

Since it went into effect, the code has prohibited mortgage brokers originating loans destined for purchase by Fannie and Freddie from ordering appraisals directly. It also requires loan officers working for banks and other lenders to delegate the process of ordering appraisals to other in-house staff or go through an appraisal management company.

In its letter, NAR asked Cuomo and the Federal Housing Finance Agency’s director, James Lockhart, to suspend implementation of the code for 18 months. A moratorium, the group said, would allow for more consideration of potential problems with its implementation, including its potential to derail home sales.

NAR said further study is needed to determine the extent of the problem. But keeping the code in place "may reverse positive momentum at a time when the real estate industry is just starting to show signs of a rebound in many markets," the group said.

While NAR says it supports "the independence of appraisers and the integrity of the appraisal process," the group said the ability for lenders to maintain ownership stakes in appraisal management companies could undermine the code’s effectiveness.

As originally proposed, the code would have barred lenders from ordering reports from appraisal management companies they owned more than a 20 percent stake in. But as adopted, the code does not limit lender ownership stakes in appraisal management companies.

The code doesn’t require that lenders such as banks use appraisal management firms — they are still allowed to hire independent appraisers directly. But independent mortgage brokers who originate loans on behalf of lenders must use lender-approved appraisal management companies. That requirement has given appraisal management companies an increased role in the process, NAR said.

Local expertise

"Our members are reporting that (appraisal management companies) are giving appraisers assignments in areas where they lack geographic competency," NAR said. "For a variety of reasons, appraisers may feel compelled to take these assignments."

Inman News columnist Kris Berg, a San Diego-based broker-owner, addressed the issue in a recent column.

The Home Valuation Code of Conduct was a "noble" idea, Berg said. But "it’s mostly serving to derail a lot of our traditional sales as underpaid and overworked appraisers apply the new ‘Random Valuation Method’ to homes in neighborhoods they have never heard of before" — sacrificing the careers of some established, veteran appraisers in the process, Berg wrote.

Mortgage Bankers Association Chairman David Kittle, testifying before lawmakers this month at a hearing on fraud prevention, expressed similar concerns about the code.

Even though the code does not prohibit lenders from contracting directly with independent appraisers, many lenders prefer to contract with appraisal management companies to avoid the risk that they’ll run into compliance issues, Kittle said.

As a result, he said, appraisers affiliated with management companies have been "inundated with work" at the expense of independent appraisers. Nationwide appraisal management companies "may not be as aware of valuation trends particular to a neighborhood as a local appraiser," Kittle said.

The MBA is working with FHFA and Fannie and Freddie "to resolve a number of questions stemming from terms in the code that are unclear or vague," Kittle said. …CONTINUED

The code allows lenders to accept an appraisal produced for another lender, for example, but only after the receiving lender obtains confirmation in writing from the original lender that the appraisal is in compliance with the code.

Because there is currently no industry or supervisory standard regarding what constitutes an adequate written confirmation of compliance with the code, Kittle said, lenders are reluctant to accept another lender’s appraisal because they might be forced to repurchase loans if they are found to have breached the code.

That means lenders "typically order a new appraisal at the expense of the borrower," even if an appraisal has recently been performed by another lender, Kittle said. 

In arguing for a moratorium on implementation of the rule, NAR noted that many state legislatures are in the process of drawing up laws to regulate appraisal management companies, and that there is "a critical need" for state regulation.

A trade association representing appraisers, the Appraisal Institute, and many independent appraisers have also expressed reservations that the code will protect them from pressures lenders may still be able to exert through appraisal management companies.

But the Appraisal Institute rejects suggestions by Realtors and homebuilders that appraisals that come in lower than expected are to blame for derailing closings. The real issue is that home prices continue to fall in many markets, a fact that’s reflected in valuations.

"We take offense with the notion that the appraisal is only good if it happens to come in at the sales price," an Appraisal Institute spokesman, Bill Garber, said in a statement. "That mentality helped cause the mortgage meltdown to begin with. The fact that the appraisal does not match the sales price is not the fault of the appraisal but a fault of the market today."

Calculated Risk, the widely followed blog on the economy, finance and housing, maintains that the code is addressing "a very real and widespread appraisal problem."

If appraisers know their ability to land business depends on hitting numbers provided by lenders in advance, they have a "perverse incentive" to hit those numbers, the blog noted.

That doesn’t mean the solution in place is a perfect one. Incentives can influence appraisals in both directions.

When appraisers are paid whether they hit numbers or not, they may have an incentive "to be overly conservative and deliver a lowball appraisal that (NAR and NAHB) are complaining about," the blog sympathized.

But lenders don’t make money if the loan isn’t made, "So there is still an incentive to get deals done," Calculated Risk concluded.


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