Appraisal Threshold Increases
In case you haven’t heard, the FDIC voted this past week to increase the minimum appraisal threshold to $400,000 for residential appraisals. This was a $150,000 increase from the previous amount of $250,000.
What this simply means is that certain home sales of $400,000 and below will no longer require an appraisal. Is this a good idea for consumers? If not what can the typical home buyer do to protect themselves?
A home is typically the largest purchase that a person makes in their lifetime. Are there any risks involved in not having a traditional appraisal done?
I say traditional appraisal here because there will most likely be some type of valuation performed on the property to satisfy the bank’s regulatory requirements. The kicker here is that the report the bank produces is for their benefit and will most likely not benefit the buyer by providing them with a legitimate market value estimate of their newly purchased home.
The report the bank produces will not be based on the data gathered by a boots on the ground appraiser that visits the home and visually observes everything about the house. The report will be based on data gathered from questionable sources such as county records.
The bank will use an automated valuation model (AVM) to develop a value estimate by using an algorithm. The thing about this algorithm is that it cannot smell, hear, or see the subject property.
AVM Limitations
This is important because it will not smell the cigarette smoke that a house may have. It cannot see a foundation
crack that could be hidden under carpet. It cannot hear the nearby train or interstate traffic that has kept a home from selling because of the annoying noise.
Whereas the bank’s valuation will only provide a risk assessment for the bank, a traditional appraisal will provide a market value estimate based on hand-picked sales that are truly similar to the subject property. These sales are based on the physical attributes of the home being appraised and will take into consideration updates and renovations that impact value.
I have first-hand experience with the sales that bank computer models suggest in appraisal assignments. Many of these sales are not even similar in size and condition because they use county records for square footage and they have no way to verify the condition they were in when they sold.
Another issue I have found is that some sales are not even in the same competitive market area that the home being appraised is in. Many of these sales are chosen based on their census tracts which may or may not mean they are in the same school system or municipality, which are big drivers of value.
Unintended Consequences of Raising the Appraisal Threshold
The raising of the appraisal threshold can have unintended consequences, especially for home buyers that want to know the true value of the home they are purchasing. It can result in paying more for a home than it is actually worth.
This higher price can produce dirty data because now the sale is used as a comparable in future appraisals that can result in inaccurate valuations. There are some steps you can take to reduce the negative impact on your biggest purchase.
What Are Your Options?
If a bank chooses not to get an appraisal this does not preclude the buyer from getting one on their own. You can also use the appraisal you get as an appraisal contingency.
It’s possible that the bank AVM will pass but the private appraisal you get may indicate that the home is priced too high. Using your appraisal as a contingency in the contract will allow you to back out of the deal if you want or help you to renegotiate the price down to match the appraisal.
One other unintended consequence of forgoing the appraisal may be the potential targeting of real estate agents for litigation if the home is not worth what is paid. If the buyer finds out after purchasing a home that it was overpriced could the real estate agent be held liable?
These are all things that we may not find out until we get some history behind us. It is definately something to think about in this litigous world we live in.
Home buyers don’t need to be powerless in this process just because banks choose to behave a certain way. If you are a home buyer you should go into the transaction knowing what your options are.
By being proactive and hiring your own appraiser you can have better peace of mind knowing that what you pay for your next house reflects its current market value rather than it just passing a risk assessment test driven by the banks regulatory department. Don’t let the increase in the appraisal threshold negatively affect your next purchase of a home.
Questions?
Do you have any additional questions about the appraisal process or how raising the appraisal threshold will affect buyers? If so leave a comment below and as always thanks for reading.
I think a buyer and a seller should always try and get a professional appraisal when there’s any doubt to the market value of a purchase or sale.
I agree, Gabe. Having the professional opinion of a neutral third party can be helpful if there is any doubt.
Don’t be modest, Ryan. You have told the truth. NEVER TRUST THE SALES PEOPLE WITH THE VESTED INTEREST!!! PERIOD!!!!
Appraisers must always push for consumer advocacy.
The most important thing to remember is that the appraiser is the ONLY party in a real estate transaction without a horse in the race. Think about this, folks. EVERYONE ELSE does. Ask yourself, why would you trust the lenders or the agents? ALL of those people don’t get paid until the deal closes. Can you really trust their integrity? My 50+ years on the business says NO!
That’s true, Russell. This all boils down to a move in the direction of not protecting the consumer. Without an unbiased party, you have the potential for the consumer to be taken advantage of because everyone wants the deal to close whether the property is actually worth what it is being sold for or not. I think this may blow up in their faces further on down the line.
Thanks Tom. I appreciate your take. I’m curious to see how this plays out. The previous threshold was at $250K and lenders for years have been obtaining appraisals at this price point still. Thus the threshold doesn’t necessarily mean we won’t see appraisals. Though today we have a different trend happening with AVMs and more limited appraisal products, so it does feel different than the last time the threshold was raised. In other words, this decision seems to coincide with other things we are seeing. Yet I’m still waiting to see how it plays out. Time will tell.
No matter what happens, it’s important that we give space to appraisers for the important role they ought to play in the housing market. Appraisers aren’t perfect of course and there will never be such a thing as a perfect valuation system. It’s just we cannot trust big banks to do the right thing and to lead us into the future if they have a vested interest in the outcome (whether loans happen or not). I know this sounds stereotypical for what an appraiser might say, but there’s some truth here.
I agree, Ryan. I did read an article where the author pointed out what you are saying about banks still ordering appraisals. I also agree with you about the current time not being the same as it was back then. There are more alternative products such as AVM’s and bifurcated appraisals that they may try to use for those homes that are under $400,000. I think these products may be okay for some homes but others may not be the cookie-cutter type and these alternative appraisal products may not provide an accurate value estimate. I have seen an “us against them” mentality with things like the Fannie Maes Collateral Underwriter. They have access to a lot of valuable information that would be very helpful to appraisers but they refuse to share it. A better approach, in my opinion, would have been to work with appraisers with this data to help the appraisal profession and appraisals become more accurate. Appraisers are the only unbiased party in the home purchase transaction and to cut them out of the picture and let the banks make the right decisions is like putting the fox in charge of the hen house, it won’t turn out pretty.
I’ve built and calibrated multiple mass appraisal models, so I have a rather “intimate” understanding of so-called “AVM’s” and their limitations. When they were just coming into vogue for residential lending (circa 2000) I had a lender question why my physically inspected report didn’t remotely match up with their “AVM double-check”. They specifically questioned why I didn’t use “123 Main St” as a comparable. I explained that “123 Main St.” is a duplex and I don’t use them as “comparables” in a single family appraisal. Not surprisingly, after asking what moron built the AVM they were using, we never did any business again. Further unsurprisingly, this lender has long since gone out of business.
AVM stories (and the likes of Zillow, Trulia, etc.) aside, most prudent buyer’s still want to know if what they’re paying for something is reasonably worth it. The approximate 5% or less of the transaction value is, in my mind, a rather cheap insurance policy. But what do I know? I’m just a property appraiser with 30 years experience.
You make some excellent points, Mark. There has not been any instance where the sales provided by the bank made any difference in an appraisal I was doing because they did not handpick them like appraisers do to match up with the subject. They will just do a half-hearted search and provide any sales they can find and don’t even consider if they are similar or not. Your experience also proves that.
If I rep a seller & a buyer pays for an appraisal but then also selects that appraiser themselves and then present the seller w/an appraisal below contract price, I would question the validity. Just as a buyer shouldn’t accept an inspection report paid for by the seller, so too, should the seller not accept an appraisal that may or may not be fair in determining value. As a Realtor, we don’t determine value but using our MLS we have an idea as to a properties value and the appraisals typically supports that value. But in a world where buyers choose the appraiser removes the neutrality element. I would likely question the validity of any buyer paid for appraisal if it came in under value and want to read it for myself.
If a lender chooses not to obtain an appraisal for the purchase mortgage, or they use their own AVM, buyers will have no other choice than to get an appraiser themselves. If they don’t they risk paying too much for the house. I cannot tell you how many times I run across a listing that overstates the square footage. Since most agents price using the square footage don’t you think the chances of it being overpriced is pretty good? I understand where you are coming from but the appraiser has nothing to gain by undervaluing the home. They will get paid the same either way. The appraiser is the only unbiased party in a home purchase transaction. The risk of losing our license and livelihood is too great if we were to be influenced by the buyer.
Buyer’s rarely, if ever know who the chosen appraiser is. It’s true that, ultimately, buyer’s typically pay the appraisal fee at closing. However, appraisals are ordered either directly from the lender or through their management company who pays the appraiser directly, and not the buyer. In fact, if you were to “read it for yourself” (closely and thoroughly), you’d find that the buyer (and seller for that matter) aren’t even intended users. In a typical appraisal for lending purposes only the client (lender) is an intended user for the sole purpose of analyzing collateral risk.
Legalese clearly dictates this type report is solely for use by the client (lender) yet, as appraisers, we’re woefully aware of how our reports almost always end up floating around in the ether. This is all the more reason for us to be, as Tom stated, “the only unbiased party in a home purchase transaction”.