Understanding A Mortgage Appraisal

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Understanding a Mortgage Appraisal - Part 1

The first thing to understand is appraisals are not all the same or equal. In fact, each appraisal is unique to the needs of the specific client.

Mortgage Appraisals are the most common type of appraisals completed. They are also specific to the needs of the client. The client is the bank, not the borrower, never the borrower.

An appraiser must first communicate with the client in all cases before completing an appraisal for hire. Certain questions must be answered, most significantly the need for the appraisal, what it will be used for, and what the expectation of the client is. The answers to these questions are necessary allow the professional appraiser to develop an appropriate scope of work to satisfy the needs and expectations of the client otherwise, it will allow an appraiser to let the client know up-front they are not able to solve the clients appraisal problem. In this way, the client can hire the appraiser and expect to receive what they are paying for. USPAP requires this in all assignments. USPAP is an acronym for the Uniform Standards of the Professional Appraisal Practice. USPAP itself is not the law however, many government and other agencies have adopted it and so in some cases it is the law to follow it, this happens most often at the state level.

Mortgage appraisals are specifically designed to serve the finance industry - the lender. With rare exception, all mortgage appraisals are developed and reported according to the lender on a uniform form. These forms were designed and created by Fannie Mae and Freddie Mac. The single-family interior-inspection form, the most common, is called the Uniform Residential Appraisal Report or URAR, form 1004 and form 70 for Fannie and Freddie respectively. There are also forms for multi-family, condos, mobile homes and numerous other types of properties and assignments. It is critical to understand these forms were designed and written by the client, not the appraiser, and by doing so, certain aspects of the appraisal are not appraiser-friendly. What I really mean are parts of the form are not possible to complete in a credible manner.

You might think somebody might change things to make sure the most relied upon form in the entire industry aligned with all parties, but that is not the case and a bit of a mystery as to why. This is why when borrowers, and even loan brokers sometimes, read a mortgage appraisal and think that it doesn't make a lick of sense, they're right, it doesn't. At least not to them.

Fannie Mae and Freddie Mac are fully aware of the form flaws. It is not easy for them to simply roll out new forms. This has been done numerous times and each time it happens, it disrupts the workflow of the industry in a significant way. If I said one thing about the way forms have been designed, it's to accomplish a task in the simplest and cheapest way possible.

A person might wonder why cost is relevant to the quality of an appraisal report. They might argue that cost ought never be a consideration when it comes to credible results. Often, it's appraisers who make that argument, and in a way they're not wrong. However, the business of lending is a business, and to have a business you must have customers and you must make a profit. The cost of the appraisal in the current lender business model is passed on to the person applying for a loan. This is a strange arrangement, considering the applicant is in fact purchasing something for the bank and not for themselves. However, when people want something enough they will pay for it, and that's market economics 101. Therefore, the cost of the appraisal in the current model is actually determined by the consumers willingness to pay, and we get what we pay for. Consumers are currently willing to pay about $300-$500 on average for an appraisal that might not get them anywhere. Subsequently, the forms have been designed with that fee amount to be paid to the appraiser in mind. Again, this is market economics and how to run a business within the living economy.

To summarize the main points so far, all appraisals are unique to the needs of the client. The needs and expectations of the client must be established up-front before an appraiser can proceed with any appraisal assignment. Mortgage appraisals were designed by and for lenders, lending and the business of lending. Lending forms do not always align with what is actually possible. Borrowers typically pay for the appraisal, but it is not their appraisal. Persons unaware of these things who might read a mortgage appraisal might not understand it and, I will add here, could be subsequently misled. Misleading information can be dangerous.

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Understanding A Mortgage Appraisal - Part 2

Mortgage appraisals require the appraiser to adhere to the USPAP when being completed. Written appraisals reports and verbal appraisal reports have different requirement standards to follow under the USPAP. Mortgage appraisals are written appraisal reports as defined in the USPAP. All written reports must provide factual market evidence to support the appraisers conclusions according to the USPAP. This is why each mortgage appraisal has three comparable sales presented. USPAP does not require an appraiser to provide conclusive or comprehensive proof, only factual market data to support the opinion. This is why three comparable sales are considered acceptable and not more. Again, there is a function of cost to keep in mind here - few people are willing to pay more than a few hundred dollars for an appraisal and presenting comparable sales is one of the most time consuming parts of completing an appraisal.

What is a fact and what is an opinion? Very little of what ends up in an appraisal is a fact. Much is assumed as fact. For the most part, only the property address, date of sale and price of a comparable sale is fact. And even then, those facts can be wrong. That is why I did not include the size of the land, the size of the house, the age of the house, and so on, because all of those things are subject to error. An appraiser is required to verify each sale used in an appraisal for support of the opinion however, verification can be in error too (it is also time consuming and/or impossible). In consideration of providing factual market evidence in support of the opinion, the actual sale price of a comparable property is the only true market evidence relevant to the requirement. All other information provided supports that fact. And to really give your brain a headache, consider for a moment that each sale is actually an opinion between a single buyer and a single seller, who have come to a single agreement, when the next buyer and seller may have come to an entirely different conclusion with respect to the sale price of the property! LOL - They call that an opinion my friends - LOL.

This brings us to market data and how it relates to an appraisal, which I will cover in Part 3.

To summarize this segment, mortgage appraisals are in writing and USPAP requires factual market evidence to be included within a written report to support the opinion of the appraiser. This factual information is not required to be proof, and does not need to be comprehensive. The matter of fact vs opinion is a matter of definition and application, which is not always black and white. Appraisers must do their best to verify all information in an appraisal report, but perfection is impossible to attain and therefore not required.