Are Appraisers Hurting Real Estate Values?

[Chris Clothier]

I wrote an article for the BP Blog asking a question about real estate appraisers and what role they are playing in holding down real estate values: http://www.biggerpockets.com/renewsblog/2012/07/18/are-appraisers-part-of-the-problem-with-slow-housing-price-recovery/#comment-107417
I wanted to post it on here to get the views and input from other appraisers and investors or even realtors who have dealt with appraisers, that, for one reason or another cannot bring a property in at contract value.

[J Scott]

Actually, you can make a mathematical argument for the fact that:

1. The appraisal process itself (not necessarily appraisers); and

2. The fact that banks won't loan above appraisal values;

will inherently limit the ability of values to increase, at least until appraisers have the freedom to value properties at higher than the absolute average of the adjusted comps (which they will rarely do in a neutral or downward trending market).

Think of it this way:

If a subject house has three perfect comps, in today's appraisal world, the value of the subject will generally be the average of the three perfect comps. That will create one of three situations:

1. If the contract price is above the average of the three perfect comps, the value will come in below the contract price. It's probably safe to say that in most of these situations, the seller will be forced to lower the sale price to the value, and the market value will have remained constant (the new comp is equivalent to the average value of the existing comps).

2. If the contract price is at the average of the three perfect comps, the value will come in at the contract price. The house will sell for the contract price, and the market value will have remained constant (the new comp is equivalent to the average value of the existing comps)..

3. If the contract price is below the average of the three perfect comps, the value will come in above the contract price. But, because the contract price is lower, the house will sell below value, and values will drop (the new comp is lower than the average value of the existing comps and will bring the average down).

So, in two of the situations above (#1 and #2), the market values stay the same. In one situation above (#3), market value drops.

In no situation above does the market value increase!

This is key, because the only situation where the market value could increase would be a situation where two things happen: 1. Buyer and seller are willing to contract above market value; and 2. The appraiser is willing to value the property above the average of the comps (above market value). These days, that would only happen in a market that was trending upwards, which is never mathematically going to be the case because of the situation laid out above.

Now, in the real world, this isn't necessary how things will play out long term -- rarely are there perfect comps, so sometimes market values will increase because an appraiser makes an optimistic adjustment on a comp. And sometimes appraisers do bring values in above market (happens to us a lot because we are willing to try to ethically influence appraisers).

But, from a strictly mathematical perspective, you can argue that the existing appraisal and loan rules essentially force the market to stagnate or drop.