Limiting appraisal liability

published in The Mortgage Press, March 2005

Several laws were drafted in Illinois last year that included language that affects appraisal operations of brokers. The first was the modification to the Residential Mortgage License Act of 1987 that now allows for the licensing of loan officers. Section 2-4(g) of that Act makes it a violation for a licensee to attempt to influence the independent judgment of an appraiser. The second law was the implementation of the High Risk Home Loan Act. This Act affects appraisal operations to a lesser extent but still covers such areas as the proper determination of loan-to-value ratios and deceptive practices.

The impact of these new laws is now becoming apparent. Choice One Mortgage, Inc. was fined $5,000 last summer by the Illinois Department of Financial & Professional Regulation (order No. 2004-MBR-77) because they attempted to influence an appraised value. The actual order that was drafted did not provide enough specificity to explain if it was one action in particular, or a combination of factors that resulted in their negligence. Nonetheless, the order listed a number of different actions taken by Choice One that contributed to the resulting fine. Brokers need to make sure that any actions taken by them or their office personnel do not attempt to influence appraised values.

The FBI recently reported that Illinois is one of the top ten “Hot Spots” for mortgage fraud. They also indicated that mortgage industry sources reported over 12,000 cases of suspicious activity in the past nine months alone. Mortgage fraud is being fought by many different parties in addition to the Department and the FBI. Many homeowners will use a value related defense during a foreclosure and their attorney will most likely see the broker and appraiser as enticing targets. There is additional professional liability that wasn’t there before with the implementation of loan officer licensing. Now is the time for brokers to implement the proper office procedures to protect themselves and their loan officers against claims of influencing appraisers.

As a side effect, appraisers in Illinois are elated because they consider these new laws to be very effective tools in dealing with unethical brokers who want to push appraised values and otherwise influence the appraisal process. Appraisers also consider these laws to be useful in the collection area. If a broker refuses to pay for an appraisal because it wasn’t high enough, then the appraiser has the option of filing a complaint with the Department to assist in their collection efforts.

It was a number of years ago that appraisers were required to start identifying the name of the person who ordered the appraisal directly in the appraisal report itself. This was the first time that a formal connection between the appraiser and loan officer was made. The Department uses this information in order to determine whether a particular loan officer or processor is involved with multiple bad appraisals.

Do you see a pattern here? All of a sudden there are numerous factors coming together that all contribute to increased enforcement against brokers and loan officers that results in increased liability. Brokers and loan officers need to be aware of these laws and should be modifying their appraisal ordering and loan processing procedures in such a way as to limit their liability in this area. Here are some suggestions of 'best practices' that could be put in place as an attempt to reduce liability in the appraisal area-

Order MBR-77 indicated that Choice One Mortgage, Inc. ordered appraisals “with (the) minimum value necessary to complete the loan…” It’s unknown whether an indication of a minimum value by itself is enough to trigger a violation of the law. Choice One Mortgage, Inc. engaged in other actions in addition to their indication of a minimum value. Nonetheless, a best practice would be to not include any writings on the order form that would indicate a desire for a predetermined value.

Some brokers try to skirt the law and write down the “owner’s estimated value” on the order form. They feel that they are only providing the appraiser with information that is coming from the borrower. While this practice is still questionable, you’ll want to make sure that any disclosure of the borrower’s estimate is reasonable based upon the history of their property. It’s very common for appraisers to receive orders where the homeowner’s estimate of value is 20% higher than what the house sold for in the last year. Performing a little due diligence by interviewing the homeowner and looking at the title report can go a long way to making sure you aren’t providing an appraiser with an artificially high “owner’s estimate of value”. That certainly would be considered an effort to influence the appraiser if the inclusion of an owner’s estimate of value wasn’t bad enough to cross over the line.

Do you find that you sometimes challenge the appraised value of a property? Sure, it’s a common occurrence. Do you ever challenge any appraisals that appear to be too high? Not likely. Make sure that you have an unbiased system in place for challenging the results of any questionable appraisals- whether low or high. If you get audited by the Department, you will have a tough time explaining why you only challenged appraisals that seemed to be on the low side. This is especially important when attempting to comply with the High Risk Home Loan Act.

Any procedures to dispute the value of a property should include the participation of the borrower. Are you trying to get an appraised value raised without the borrower’s knowledge? The borrower is just as likely as anyone to be a plaintiff in a liability case. Your borrower might have been more comfortable with a lower value if they were given a copy of the appraisal that they could review. Many buyers with high LTV loans were never aware that their appraisal may have been artificially high. Be sure that you aren’t unilaterally attempting to get appraised values raised without the borrower’s knowledge and consent.

“Comp checks” are a controversial practice for appraisers. They used to only concern appraisers but now with Order MBR-77 they have suddenly become a problem area for brokers too. Appraisers can provide comp checks under a very narrow set of circumstances. It would normally take the typical appraiser at least 45 minutes or so to provide a legal comp check. Part of the appraiser’s legal obligation includes creating a work file that includes the proper documents to support the development of their ‘oral’ appraisal report. Yes, a comp check provided over the telephone is actually considered an oral appraisal report. The problem is that very few appraisers actually spend the necessary amount of time to do a comp check legally. Most appraisers get numerous requests for comp checks each day and would be out of business if they legally complied with every request. The most honest appraisers rarely provide comp checks because they lose money doing them. Far too many appraisers comply with comp checks by not having a supporting work file.

How does this affect your business? Simple, if you are using appraisers who provide you with comp checks then make sure they are complying with the law. Ask them to fax over their work file once they’ve provide you with a value. If they don’t have it then you now realize you are in receipt of an unreliable oral appraisal. Once you get in the habit of requesting a copy of the work file, you’ll suddenly realize how few appraisers are actually providing legal comp checks. That might encourage you to discontinue comps checks altogether. Order MBR-77 indicated that Section 2-4(g) of the Act was derived from the Uniform Standards of Appraisal Practice (USPAP.) These are the Standards that appraisers must comply with. This shows the emphasis the Department has placed on the broker’s obligations as they pertain to appraisal standards.

If you still desire to request comp checks from appraisers then make sure you’re not always awarding the appraisal order to the highest bidder. Many brokers will fax out comp check requests to multiple appraisers and assign the order to the appraiser that provides the highest value. Do you think that there are some bad appraisers who realize that they can get more business if they are always the highest bidder? Sure enough, there are some appraisers making a very good living by always coming in with the highest estimated value. This practice of conducting a comp check lottery will almost guarantee that the majority of your appraisals will have a bias towards the high side. Only you can decide for right now whether you feel that practice complies with not influencing appraised values. A better practice is to assign appraisals based upon an appraiser’s availability and knowledge of a particular market area.

Illegal comp checks are usually followed by a request for a predetermined value. This occurs when the appraiser tells you that the subject property should be worth $XXX and then accepts the order based upon promising that value. It’s illegal for the appraiser to accept an order on that basis and you want to make sure your office isn’t requesting appraisals in that way. An appraiser who accepts an order on that basis could be surprised when the subject property was in much worse condition than originally assumed. That appraiser might then feel obligated to deliver an appraisal to you with the value they promised, despite being way too high. You might not even realize that you received a misleading appraisal because the appraiser would have attempted to hide the true condition of the property in the report. That appraiser’s favor would have just increased your liability- likely without your knowledge. Make sure that your are not ordering appraisals based upon predetermined values and you can limit this sort of behavior by unscrupulous appraisers.

Mortgage fraud typically involves at least one bad lender and one bad appraiser. While you can monitor your own practices, how do you ensure you are hiring competent appraisers? You should have an appraisal review process in place to measure the quality of appraisals you are getting. The formal appraisal review process is very common in the secondary market but not as common on the originating side. You can order a review of an appraisal from most appraisal firms or you can use a larger appraisal management company to perform the process. It basically consists of an appraiser checking another appraiser’s work while also complying with USPAP. A desk review consists of reviewing an appraisal based upon information that can be verified without the appraiser going out in the field to drive by the properties. A full field review is more thorough and the review appraiser will actually drive by the subject property and sales comparables. This process can uncover more mistakes that might not have been apparent with the simpler desk review. You should make sure that your most popular appraisers are at least reviewed occasionally. Failing to review the work of your appraisers is almost certainly going to allow a few bad appraisers into the rotation. Finally, if your appraisers are doing comp checks without supporting work files then you already are aware of some lousy appraisers on your list.

The above recommendations may seem a little bit extreme. You will certainly use only those recommendations that seem appropriate for your situation. However, the Choice One order has put the lending industry on notice that the Department will indeed enforce the Act as it pertains to influencing the appraisal process. The challenge is to modify your operations in such a way as to comply with these new laws while still being able to compete with those brokers who will willfully ignore the new laws.

©2007 Appraisal Services, Inc.