If you've been paying attention, you know that one of the "solutions" to the sub-prime/credit "crisis" as it relates to real estate (everything these days is a "crisis" don'tchya know -- gonna have to come up with a new word for those that really are, a sort of Label Inflation, but I digress) is a new set of rules for appraisers: they can't be on the payroll of the lender making the loan, no one can talk to them, they tend to be based in other area codes (presumably to reduce the chances that they're dating the listing agent), and there is now a new layer of bureaucracy which the lender must contact to secure their services. Well, this is just great. All this stuff makes the process look to the downstream rating agencies and purchasers of the paper like it has more integrity and, since this is the Administration of Appearances (versus substance -- notice how the pendulum swings back and forth?), that was probably the goal.
So now, instead of pressure by realtors and lenders to make the appraisal as high as possible, the opposite pressure is being applied by, I assume, Fannie Mae, Freddie Mac, and FHA as a condition of buying/insuring the loans. Since the lenders have been given all this TARP (Troubled Asset Relief Program) money, the government can now tell the lenders how to run their business, right down to details of the appraisers' activities. And since Washington has demonstrated such amazing fiscal acuity in the past, I'm sure we'll all sleep better knowing they're now running the financial markets . . . in addition to building cars. My oh my! What a wide range of talents!
Back to appraisers: as if sellers didn't have enough to worry about finding a buyer in the current market, appraisers are now apparently trying to see how low an appraisal they can justify. This is causing sales to fall apart in alarming numbers, and causing artificial downward pressure on real estate prices. Obviously if the sale price is really high and the buyer only has 10% down, there may be an issue, but the buyer doesn't understand that he can't rely upon the appraiser to tell him what the house is actually worth, and may want to back out even tho he has half down and the lender will still make the loan with an appraisal 10% under the sale price.
So why is the appraiser's valuation unreliable? As I've discussed elsewhere (The Problem With Appraisers), there is a structural problem with the appraisal industry which remains unaddressed and, as far as I can see, unrecognized. To repeat (briefly) appraisers do not look at property. If you're not in the business, this may be a shock to you, but it's true. The only property an appraiser actually sees (meaning goes inside, backyard, etc) is the one he's appraising. But how does he determine the value of that property? By comparing it to the ones he hasn't seen, of course. So we have the appraiser carefully scrutinizing the subject property, measuring it, taking copious pictures -- giving the impression that this is really serious business. He then proceeds to use (generally) 3 recent sales to determine the value of the just-dissected property. Problem is, he can't get inside any of them. And God knows he didn't see them when he could have, because he's probably from Yorba Linda and, for some reason, doesn't habitually look at property in the South Bay.
So the appraiser sits in his Camry in front of Comp #1 swiveling his head between a copy of the listing and the house. "Oh, this house had a 'remodeled kitchen, a big flat lot, 4 bedrooms, and a panoramic view' according to the listing" . . . written by the listing agent when trying to sell the house. Now, I know that hyperbole is unknown in the real estate business, so I'm sure there is no puffing in that description . . . I mean, "Mr Seller you put new paint and linoleum in the kitchen, so we'll call it 'remodeled' because the buyer is going to see what it is before buying it anyway; and there is at least 15 feet of flat yard before you reach the Suicide Cliffs -- some people would probably call that 'big', and we'll call that room you added a bedroom, even tho you have to walk thru the 3rd bedroom to get to it, and there is a pretty good view of the oil tanks from the bathroom . . . if you stand on the toilet, and the buyer will judge for himself anyway". That may all be true. However, the appraiser will also judge, but only from the description, since the new owner is unlikely to let him in. Sometimes the appraiser will call the listing agent for the past sale, but 3 listing agents are going to have different standards for what is "good", "big", "panoramic", or whatever.
So we now have the appraiser comparing the reality of the subject property with the fantasy (or at least the best possible justifiable) description of the recent sales. How do we think the subject is going to fare in that comparison? "Gee, the subject had only re-faced the kitchen cabinets and new appliances, and the back yard was only 30 feet deep, there are only 3 bedrooms and a den, and there was only a slivver of coastline view thru the trees, so obviously it's inferior". So the appraisal comes in under the sale price.
The point, of course, is that there is so much that contributes to the value of a property that isn't strictly quantifiable. It is very difficult to assign a number when one can't compare even on a subjective level. This results in a disproportionate reliance on hard data like square footage of the house and lot, bedroom and bathroom count, etc, which is a terrible way to price homes, and is the last resort of those who haven't actually seen any (generally the appraiser or out-of-area agent). I hate to say it, but the buyer who has seen 20+ homes probably has a better idea of values than the appraiser does. The Realtor active in the area definitely does.
So the appraisal comes in below the sale price, which causes the sale to fall apart because either a) the buyer can't get the loan, or b) he gets cold feet because the appraiser, whose infallibility is assumed, says the house is not worth what he's paying. Again, all this is causing artificial downward pressure on real estate prices.
Which brings up the last issue (I know -- hooray!), Local Knowledge: I'm trying not to be sarcastic here, but how much is an appraiser from Yorba Linda or Mission Viejo going to know about the South Bay, or vice versa? I've had appraisers trying to use "comps" in Hollywood Riviera when "appraising" homes on Via La Selva in PVE! The fact that it met the criterion of being within 1/2 mile got it included. Or using a Rolling Hills Estates property as a comp to a Rolling Hills one. The "appraiser" (who was from a galaxy far, far away) actually thought, due to the name, that RHE was a more upscale area.
I'm not a fan of criticism unless the critic has a better answer, and I do: restructure the appraisal process so that each lender (or appraiser-locating middleman) has the number of appraisers assigned to a specific geographic area required for the business that lender does in that area. One area would be, for example, the Palos Verdes Peninsula. If 2 is a appropriate number of appraisers, those 2 appraisers would be charged with looking at houses for sale just like agents do -- going to the broker's open houses (hey -- there's free food), they'd have a lock box key so they could look at vacant houses -- whatever it took to keep current. These two appraisers would get all the appraisals in Palos Verdes for that lender/middleman. Not only would it then be their job, it would make sense for them to look at property because there would be a fair likelihood that that knowledge would be used later; it makes no sense for them to look at property now because they're working all over Southern California, and those 30 homes they looked at in Murrietta aren't going to shed a lot of light on the one they're appraising on Via Pacheco in PVE.
So when the appraiser was called to appraise a sale on Via Rivera, he'd have seen the comp on Via Carrillo and know how it compared in terms only discernable by personal, visual inspection. The result would be a more realistic valuation, which should be better for everyone.