Note: The following article (authored by Lee Lansford) appeared in the Nov. 2010 edition of the “Illinois Appraiser”, the publication of the Appraisal Admin. Div. of the IL Dept. of Financial & Professional Regulation, State of Illinois. 

Unacceptable Adherence to “Guidelines”

Most all appraisers are familiar with appraisal assignment “guidelines” (common within the residential lending side of things, but probably applicable to all areas of appraisal practice) that clients request appraisers to consider as appraisers develop and communicate appraisals. Some guidelines are client specific, some are “what we have always done” and believe to be the norm within the profession; some are simply apocryphal.  The purpose of this article is to make appraisers aware that an appraiser’s actions, if not based upon good appraisal practice but instead based upon unacceptable adherence to a “guideline” (real or imagined), will result in an appraisal not in keeping with professional standards.

First, let’s be certain that we are all on the same page with the use of the words “guideline” and “requirement” because some incorrectly use or understand these words. A “guideline” may be understood by the client and the appraiser as something other than a “requirement”.  A client’s “requirement” for an assignment might include (by way of example) “photo-images of all of the subject’s bathrooms” or “appraiser’s original photo-images of the sales comparisons”.

A “requirement” is just that: something that the appraiser must do as a condition of the assignment.  A “guideline” might be understood as the client’s “best practice” for the appraiser to comply with when and where appropriate (i.e., if consistent with good appraisal practice). In those instances where it is not possible—given the appraiser’s interest in developing and communicating a credible appraisal (that is, consistent with the USPAP and Illinois’s License Law and Rules)—to comply with a guideline, the appraiser is obligated to offer an explanation as to why, in this particular instance, the guideline has been exceeded. With understanding of these two terms, we can move ahead.

“Guidelines” for a particular client might include (by way of example): “if a comp is more than 1 mile distant from the subject, explain the rationale for inclusion”; “if net adjustments exceed 15% or gross adjustments exceed 25%, explain the rationale for inclusion”; “if a line adjustment exceeds 10%, explain the rationale for inclusion of the comp”; “if the opinion of market value is +/-20% of the predominant value for the neighborhood, comment on the affect on the subject’s marketability and whether the subject is an under- or over-improvement”; “if the GLA of any comp is more than +/-20% of the subject’s GLA, explain the reason for exceeding this guideline”. You get the idea.

Recently, as a member of the Appraisal Board, I have had two appraisers admit that they “tailor” adjustments in the Sales Comparison Approach so as to avoid exceeding client guidelines for the appraisal. What? If the market indicates that a golf course location for the subject commands a premium of $50k…but this would exceed the “line adjustment exceeds 10%” guideline and necessitate the appraiser having to provide an explanation, the appraiser opts to adjust $25k and…”problem solved!”  Or, perhaps, the finished basement contributes $40k to value, but an adjustment of $20k “allows” the net adjustment to be less than 15% and the gross adjustment less than 25%...and the appraiser concludes “why not?”

Appraising—at least for some who practice in the arena for use in residential lending—has become a “fill-in the blanks and conform to guidelines” endeavor. Jokingly, I have suggested that we need yet another appraiser licensing category: “Certified Form Filler”.

It is important to note that the purpose here is not to nit-pick over (by way of illustration) whether the appropriate adjustment for, say, a garage space vs. no garage space is “$2500” or “$35,000”; only the market can provide the appraiser with indications of what an appropriate adjustment might be. But, the appraiser is responsible for developing and communicating a credible appraisal and such may not be achieved if the appraiser’s focus is first on attaining compliance with “guidelines” and not on credible analysis (and accurate reporting of verifiable data).

 It is evident that at least some appraisers “mold” adjustments (or, report that a comp is “.9 mile” distant when it is 1.25 miles from the subject or “bend” the GLA of a sales comparison to make it appear to be “similar” to the subject) in order to communicate an appraisal that has the appearance of complying with “guidelines”. This practice is simply not acceptable and one that might create a problem for the appraiser much more significant than explaining why a particular guideline has been exceeded.

As Standards Rule (USPAP) 1 offers: the “appraiser must…correctly complete research and analyses necessary to produce a credible appraisal.”

As the old sergeant in the TV series “Hill Street Blues” used to say: “Be careful out there!”

POOTA Cost Approach

(As published in Vol. 1 Issue 3, 12/2009 in the “Illinois Appraiser”—IL Dept. of Financial & Professional Regulation—this article addresses some of the observed deficiencies, by at least some licensed appraisers, in the development and communication of the Cost Approach in an appraisal. Though addressed to an appraiser audience, the content is also of interest to users of appraisal services.)

Frequently—with focus here on appraisals for use in residential lending, but certainly not limited to such—we see appraisal reports that include a Cost Approach that is best described as the POOTA (“Pulled-Out-Of-Thin-Air”) Cost Approach.

How can we identify the ”POOTA Cost Approach”?

Here are a few examples:

SITE VALUE: If you are offering an opinion of site value, be certain that it is credible. Often there is no support (at least none in the appraisal report and, frequently, none in the appraiser’s workfile—if the appraiser has a workfile!) for the opinion of site value. And, the opinion of site value has little to no relationship with market data that would have been available to the appraiser.

What, the site value is estimated at $75,000 when many improved parcels (distress SFRs) are selling for $20,000? Such is not credible. Or, instances where there are market data in the form of closed sales and current offerings that indicate a site value radically different from the appraiser’s opinion.

$$/SF PER “MARSHALL & SWIFT”: M&S stock must be quite high given the number of appraisers who claim to use this (or similar) source for cost figures. The problem with the appraiser’s cost numbers becomes evident when the numbers are so far removed (we’re not talking about “a couple of dollars ‘here’ and a couple of dollars ‘there’”) from reality that the numbers are devoid of any credibility.

If you, as an appraiser, use a cost service…use it and use it correctly. If you don’t use a specific cost service…don’t claim that you do!

PHYSICAL DEPRECIATION & THE AGE/LIFE METHOD: Of much interest are cost approaches where the appraiser estimates the Effective Age as 20 yrs., the Remaining Economic Life as 40 yrs., and—when claiming that Physical Depreciation is via the Age/Life Method—arrives at a dollar amount for Physical Depreciation that is equal to 10% of the replacement (or, reproduction) cost new. This may be “New Math”, but it isn’t credible.

EFFECTIVE AGE: Some estimates of Effective Age (the age that the improvements “look to be”…may differ significantly from the actual age of the improvements) are not supported by pertinent comments in the appraisal report. My favorite is the 85-yr. old house with the appraiser’s estimate of Effective Age as, say, 10-yrs. Now, this may be correct, but when the appraiser provides absolutely no indication of updating, remodeling, modernization et cetera to the improvements and merely cites “the improvements are maintained in an average manner” (and “average” in this neighborhood is not indicative of an Effective Age of 10-yrs. for an 85 yr. old house), the opinion is not credible.

INCOMPLETE COST APPROACH: Do you proof-read your appraisals before communicating to the client? Some appraisers evidently do not because we have seen cost approaches with no opinion of site value, no depreciation whatsoever for a 50-yr. old house, the detached garage not included in the costs, et cetera.

“THE COST APPROACH IS NOT INCLUDED BECAUSE IT IS NOT REQUIRED BY FANNIE MAE (or the client et al)”: Be aware that just because Fannie Mae or your client do not require the Cost Approach, this does not mean that you can explain away its lack of inclusion with words to the effect “The client doesn’t require it, so I didn’t do it!” For more on this topic, refer to the USPAP, SCOPE OF WORK RULE. Also, see Standards Rule 1-4 (b) and Standards Rule 2-2, (a,b,c), (viii).

There is a lack of consensus or understanding among appraisers regarding concessions paid to a buyer in a sales transaction. The focus here is on appraisals communicated via a current Fannie Mae/Freddie Mac form.

The intent of this article is to bring some clarity to this topic, whether you’re appraising the property as a purchase transaction or using it as a comparable sale after it has closed.

However, you MUST remember this concession is NOT relevant in the sales comparison analysis.

This is the reason why the “sales or financing concession” field for the subject property on a Fannie Mae form is “shaded out” in the sales comparison analysis section.

That is, any concession found in your subject’s transaction is NOT relevant in your analysis of the sales comparisons!

The sales comparisons will reflect an adjusted sales price range for the subject property regardless of what the buyer and seller of the subject have negotiated in the contract.

Remember: You are appraising the subject property, you are not appraising the subject’s Contract of Sale!

That’s the easy part!

In what follows, we assume that the appraisal is being communicated using one of the current Fannie Mae/Freddie Mac forms.

An integral part of these forms is Fannie’s definition of Market Value.

In one part of the definition, Fannie provides a directive to the appraiser as to how “sales concessions* granted by anyone associated with the sale” are to be considered and analyzed.

It’s the asterisk (see “sales concessions*” above) section of the definition that requires our attention when concessions are present in the sales comparisons.

Quoting from a current (March 2005) Fannie Mae form (words in BOLD are my emphasis):

“*Adjustments to the comparables MUST be made for special or creative financing or sales concessions. No adjustments are necessary for those costs which are NORMALLY paid by sellers as a result of TRADITION or LAW in a market area; these costs are readily identifiable since the seller pays these costs in VIRTUALLY ALL sales transactions.

Special or creative financing adjustments can be made to the comparable property by comparisons to financing terms offered by a third party institutional lender that is not involved in the property or transaction.

Any adjustment should not be calculated on a mechanical dollar for dollar cost of the financing or concession but the dollar amount of any adjustment should approximate the market’s reaction to the financing or concession based on the appraiser’s judgment.”

Consider this:

In some market areas, it is customary for sellers to pay for, and provide to the buyer at closing, a current plat of survey.

This seller paid item is present in the market as a “result of TRADITION or LAW” and is found in “VIRTUALLY ALL sales transactions”: yesterday, today, and, most likely, tomorrow.

The seller paying for the plat of survey and giving it to the buyer at the closing is typical in a “seller’s market” and a “buyer’s market” (ALL the time!).

The fact that this seller-paid item is present under ALL market conditions (and in virtually ALL transactions) is very important! It is obvious that such a seller paid (as found in the sold comparisons) item is NOT something that is considered as a “seller concession” requiring adjustment in the sales comparison analysis.

From the above, it is apparent that many, or most, concessions to buyers present in a “buyer’s markets” do NOT meet the test of having been present in “VIRTUALLY ALL sales transactions” as a “result of TRADITION or LAW” (under ALL market conditions!). Thus, “adjustments must be made…”! ! !

Some appraisers believe that because “many” (or, even “most”) recent and current sales have concessions to the buyer, such is “common” or “typical” of “the market” and that no adjustment for the concession need be considered. Such thinking is erroneous! ! !

#1: “The sold comparison had a concession to the buyer in the amount of $7500, but many—or even most—sales transactions today have a seller concession! Thus, such concessions are ‘typical’ of today’s market and there is no need to consider an adjustment for the concession—even though such a concession was NOT typical a few short years ago!”

#2: “The subject has a seller concession of $10,000 and the sold comparison has a seller concession of $10,000. Hey, no adjustment is necessary because the concessions are equal!”

The thinking of these two appraisers indicates that they are not incorporating the previously cited directive from Fannie Mae into their approach!

Keep in mind:

a) Any concession to the buyer in the sales contract for the subject of your appraisal is IRRELEVANT when it comes to the analysis in the Sales Comparison Approach. You are appraising the Subject for its Market Value—you are not “appraising” its contract of sale.

b) Any “pay-back” (concession) to the buyer—“granted by anyone associated with the sale”—or cost paid on the buyer’s behalf MUST be considered as a concession unless such is found in the market as a “result of tradition or law” in “virtually all sales transactions” (“virtually all” as in “yesterday, today, and, likely tomorrow” and under ALL market conditions).

c) Don’t confuse what is “typical” TODAY with what is “typical” (by custom or law) ALL of the time!

A chief appraiser with a major national bank offered this regarding concessions in the sold comparisons:

“I have long believed that concessions simply reduce the effective net to the seller so all ought to be discounted to find the true MV. While it (concessions) may be ‘prevalent’ in a specific market, I’ve never ever seen a market in which they virtually all get the concession.” (My note: the comment is specific to the concessions as found in the sold comparisons!)

And, a former chief appraiser with a large national investor:

“It is my belief that discount points (paid by the seller on behalf of the buyer) should be adjusted for.” (My note: the comment is specific to the concessions as found in the sold comparisons!)

Also, a prominent HUD employee, posting in a discussion on this topic at the “AppraisersForum” website:

“We are finding appraisers who are failing to adjust/report concessions in the range of $10K-$100K, new automobiles etc. Their reasoning is currently ‘typical for the market.’ Wrong! Typical/customary fees (seller-paid items) are found in either a seller or buyer market.” (My note: the comment is specific to the concessions as found in the sold comparisons!)

From Fannie Mae (definition of MV—the asterisk section):

“Any adjustment should not be calculated on a mechanical dollar for dollar cost of the financing or concession but the dollar amount of any adjustment should approximate the market’s reaction to the financing or concessions based on the appraiser’s judgment.”

Though directed at an appraiser audience, this article—revised from the original that was published by the IL Coalition of Appraisal Professionals at their website on 11/17/2007—may have interest to the observer of issues that affect licensed appraisers who are subject to the USPAP—Uniform Standards of Professional Appraisal Practice.)

It’s a given that it is not at all unusual for a licensed appraiser to provide an appraisal for use (by way of illustration here) in the lending decision-making process to one client and, following shortly thereafter, receive a request from a second client to provide an appraisal of the same property and for the same use. Though the Scope of Work for both assignments need not be identical, quite often the SOW (Scope of Work) is extremely similar.

The request may include the condition that the effective date (very recent in this instance) for this second appraisal is not different from the Effective Date of the first appraisal.

The question that may arise in the minds of appraisers is this:

Does this second request for an appraisal of the property, very recently appraised by the same appraiser—with NO CHANGE in the Effective Date from the first assignment to the second—constitute a “retrospective appraisal” when the appraiser complies with the request?

The USPAP covers the topic of Retrospective Appraisals in Statement 3.

Statement 3 offers that a Retrospective Appraisal has “the effective date of the appraisal prior to the date of the report.”

Hmmmmm!

It is quite likely that many (most?) of our appraisals have an effective date that is prior to the date of the report! So, there MUST be more to this story…and there is.

Per Statement 3 (USPAP), “current appraisals occur when the Effective Date of the appraisal is contemporaneous with the date of the report.”

OK. But what is “contemporaneous”?

And, how does all of this relate to the problem at hand? Read on.

I posed the following scenario and a question to John Brenan, Director of Research and Technical Issues, The Appraisal Foundation:

“I am a licensed appraiser and I inspect a subject property today and communicate the appraisal to my client tomorrow. Within a few days—or few weeks—hence, I receive a new request from a second client for an appraisal of the same property with NO CHANGE in the Effective Date for this second assignment vs. the first assignment. If I complete this second assignment as requested, have I communicated a ‘retrospective appraisal’?”

Following my submission of the scenario and question to the ASB and prior to receiving a response, I asked T.J. McCarthy, SRA, (ICAP “Web-Master Supreme” and current Chairman of the IL Real Estate Appraisal Board) for his perspective on this matter. I will say that both TJ and I had the same understanding of this situation and it mirrored the response from TAF; either “great minds think alike” or (in my case) “even a blind squirrel will eventually find a nut”.

The response from John Brenan at TAF was generally as follows:

1: The most important consideration regarding the second assignment is the answer to this question: “Is this a CURRENT appraisal?”

The understanding of this by both TJ and me is that a “current” appraisal reflects present conditions of the market and the subject property’s position in the market.

That is, there have been no recent (i.e., since the Effective Date) measurable or significant changes in the market that would affect the opinion of value or what was otherwise communicated in the first appraisal; the report of the second appraisal and the opinion of value are not at all misleading.

2: The mere fact that a second appraisal report is prepared based on a prior effective date does NOT automatically mean that the appraisal is retrospective (SEE #1).

3: Because it can be argued that ANY appraisal might be construed as being “retrospective” if the report is not prepared at the exact time the opinion is developed, the ASB will not further address this issue (that is, time elapsed between the Effective Date and the date of the report). And, yes, SEE #1.