The Down and Dirty on Foreclosures

foreclosure pic The Down and Dirty on ForeclosuresIf you keep up with the news you know that foreclosures dominate the headlines.  It is an unfortunate thing but something appraisers must consider.  People ask me all the time about why I must use foreclosure sales in the appraisals I do.  What I tell them is that in many real estate markets foreclosures are driving property values.  And as you might guess, it is not in a positive direction.

Several years ago an appraiser might run across a foreclosure sale and, after analyzing the market, decide to drop it because it was not relevant and did not reflect overall market activity.  However in today’s market, due to the number of foreclosure sales and listings, decide that they do reflect what is occurring.  Appraisers are required to use recent sales, and more times than not, these are foreclosures, which are typically lower.  In addition to closed sales we look at homes that are offered for sale.  These are used because they would compete with the property being appraised if it were for sale.  As with closed sales, many of the homes that are for sale are foreclosures that are listing lower than non-foreclosure properties.  These days foreclosure properties are not trashed out like they use to be.  They are high quality homes that have been well taken care of but were foreclosed on due to the owners losing their job or some other unfortunate circumstance.

So the down and dirty on foreclosure is that they must be used in our appraisals if they reflect what is happening in the market and they are having a direct impact on property value trends.  If you have any other questions about foreclosure or anything else, please give me a call at 205-243-9304.

 The Down and Dirty on Foreclosures

About Tom Horn


Tom lives in the Birmingham, Alabama area with his wife and two children. He has been appraising residential real estate for over 20 years and holds the SRA designation from the Appraisal Institute. He concentrates in the area of single family, vacant land, 2-4 family, and condominium appraisals.

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Comments

  1. Using a foreclosure is one thing if it is in relatively good shape considering a long vacancy and is in the same neighborhood (and especially if that same neighborhood has a high volume of foreclosures) and then it is another thing when an appraiser goes outside of that neighborhood searching strictly for foreclosures to use as comps (without consideration of the condition of the home or that the house is not located in a relatively comparable neighborhood) simply to justify the price. Appraisal standards require that “market value” NOT use foreclosures that they do not have condition data to support the sales price since not all foreclosures are the same. You’ve even posted blogs showing the difference between a “typical” foreclosure and what you are seeing in today’s market (broom clean properties in really good shape with only minor repairs being needed).

    The difference is this — “market value” considers what properties in a certain area are selling for — it does not take the current sales price of a particular property then attempt to justify the price (i.e., foreclosures sale BELOW “market value” – to appraise a home outside of its demographics to other homes that sold for the same amount regardless of construction or location [i.e., comparing a 4-side brick home to a 1-side brick home without adjustments to the materials used to construct the property or the location of the "comps" being in areas with high foreclosures vs. the subject being the only foreclosure in its neighborhood] is simply a bad appraisal.

    The use of foreclosures should also take into consideration the number of foreclosures in that market. If the market consists of 25% foreclosures and you are using 4 comps – ONE comp being a foreclosure would be a relatively comparable market sample. However, using NOTHING BUT foreclosures as comps to appraise a subject home that is a foreclosure is not giving consideration to the “market value” of that home – it is a cost justification and not an appraisal.

    In today’s market – there are some really sweet deals available on foreclosed homes. “Justifying” the low price by adjusting its “market value” by appraising it against non-comparable comps to lower its “paper value” is penalizing some homebuyers who have done their homework, have spent months looking at homes, burned a lot of gas, put a lot of miles on their vehicles, etc. so that a lender can charge PMI on a property that should in and of itself provide enough equity to forego that expense.

    Face it — there are simply some BAD appraisals – especially when the appraisal is not taking the subject property into consideration as it sits, where it sits. Not every neighborhood has taken the beating that others have. The neighborhoods with poorly constructed homes (pot holes in the street [which are narrow and un-striped], 3-sides vinyl, mixed dwellings [houses and mobile homes in the same neighborhood], etc.) have a higher rate of foreclosures and spend a lot longer time on the market. Homes that are better constructed, have HOAs that require certain standards of maintenance and uniformity, etc. have fewer foreclosures – and even in those neighborhoods, many of the HOAs are ensuring that the outsides of these REOs are maintained (i.e., the grass is mowed). As the appraiser board says – not all foreclosures are the same – and they certainly do not all comp against one another dollar for dollar. And although a foreclosed property should not be avoided for use as a comp – its condition should play a major factor in how much weight is placed on its use. If no market data is available as to the amount of repairs and no interior photos have been provided, it’s safe to say that its condition cannot be ascertained and should not be used since that information should not be assumed.

    • To appraise a house just for the contract price would be wrong if there was market evidence (closed sales and active listings) that would support a higher value. The condition of the comparables is very important because we have to make adjustments for this and must know the properties condition. That is why appraisers need to verify terms of the sale as well as condition of the property. You make some very good points and hopefully the majority of appraisers are doing their jobs correctly.

  2. “Several years ago an appraiser might run across a foreclosure sale…”. I have had this conversation many times recently. People are always surprised when I tell them I have appraised foreclosed homes almost as long as I have been a real estate appraiser. There has always been foreclosures, there are just more of them now, a lot more. And some of them are in great condition.

    • Same here Bryan. Maybe its because of the shear number of them, but I am finding more homes in good condition. The economy has effected people in all walks of life, even those living in the upper priced homes.

  3. My grandparents purchased a home in Southern California in the early 1960s just before it went into foreclosure. It’s not a new concept, yet words like “REO” and “Foreclosure” have become very well-used words in our vocabulary lately, so I think it feels like a new concept. Additionally, before the bubble burst, everything in real estate felt really good – like it would always keep going up. :)

    • That’s true Ryan. I don’t think it was easy for people to talk about years ago either. It had a stigma attached to it. Not that it doesn’t now but it is not as bad, because so many people have experienced it.

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