MLPP3e C12 Appraisal

Chapter 12
Understanding
Appraisals
Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 1

Chapter 12: Understanding Appraisals
Overview
Chapter 12 discusses:
• The steps necessary to complete a real estate
appraisal
• The three appraisal approaches used to arrive at an
opinion of value
• The elements recorded on a Uniform Residential
Appraisal Report (URAR)
• How adjustments are made to comparable properties
• The impact of the Home Valuation Code of Conduct
(HVCC)

Key Terms
• Appraisal • Contributory Value

• Appraisal • Drive-by Appraisal
Management • Elements of
Company (AMC) Comparison
• Automated • Gross Living Area
(GLA)
Valuation Model
(AVM) • Home Valuation
Code of Conduct
• Comparables (HVCC)

Key Terms
• Indicated Value • Reconciliation

Range • Sales Comparison
• Market Value Approach
• Matched Pair • Subject
Analysis • Substitution
• Neighborhood • URAR
• Recertification of • USPAP
Value

Real Estate Appraisal
• An estimate or opinion of value as of a

certain date that is supported by objective
data
• Not a guarantee of value
• Must be supportable and based on facts
• Only valid as of its effective date, which
establishes terms, conditions, and economic
circumstances upon which the value is
estimated

Appraisals Performed to
Determine Property Value
• Collateral for mortgages or investments
• Sellers and buyers looking for listing/offer price
• Civil lawsuits
• Divorces
• Bankruptcies
• Estates and trusts
• Eminent domain valuations
• Insurance coverage or claims
• Tax matters
• Determining construction or remodeling costs

Approaches
• Sales Comparison Approach—compares

subject property with other similar
properties (comparables or comps) sold
recently in the same market area
• Cost Approach—calculates the cost of the
land, site improvements, and the cost to
build the structure on the land
• Income Approach—analyzes the revenue,
or income, the property currently generates
or could generate
Uniform Standards of Professional

Appraisal Practice (USPAP)
• Established and promoted by the Appraisal
Foundation
• Dictates a number of standards, rules, and
guidelines that licensed appraisers must follow
when completing an appraisal report
• Requires appraiser to disclose any interest in
the subject property or the outcome of the
appraisal

Uniform Residential
Appraisal Report (URAR)
• Most common appraisal report form used in
residential mortgages
• Referred to as Fannie Mae Form 1004 or
Freddie Mac Form 70
• Used for single family homes, individual units
in a planned-unit development (PUD), or other
one-family properties
• Specific forms used for condominiums, multi-
family investment properties, and
manufactured homes
Sales Comparison Approach
• Compares the subject property with other

recently sold properties (comparables or comps)
in the same location as the subject in order to
assign value
• Considers only past sales that have actually
closed
• Considered the most useful and accurate of the
three appraisal methods for residential property
• Also known as the market data approach

Finding Comparable Sales
• Typically use between 3 and 5 comparable sales

• A minimum of 3 comps is required by most
secondary market lenders
• Should be:
– Recent sales, usually within 6 months prior
to the date of the appraisal
– Same market area
– Same transfer rights
– Part of an arm’s length transaction

Rules for Adjusting Properties

• The subject property is the starting point
and never changes
• If the comparable is missing a feature
that the subject has, the appraiser adds
to the comparable to make the
properties equal
• If the comparable has a feature that the
subject property does not, the appraiser
subtracts from the comparable to make
them equal
Comparable Chart

Adjustments
• As of day the comps were sold

• Made only for significant features
– Generally physical features
– Could be features of the transaction, such as
when a sale occurred or financing terms
– Only those features that appeared to contribute
to any price differences should be noted

Limits on Adjustments
• Limited by Fannie Mae and others in the

secondary market
• Provides a benchmark as to how close the
comparables actually are to the subject
property
• Properties that are too dissimilar can result in
excessive adjustments

Fannie Mae Guidelines

• The total net value of all adjustments should not
exceed 15% of the comparable sale price
• Positive adjustments (for missing features) are added
together
• Negative adjustments (for additional features) are
subtracted from that total
• The total gross (absolute) value of all
adjustments should not exceed 25% of the
comparable sale price
• All adjustments are added together, regardless if
adjustments are positive or negative

Sequence of Adjustments
• Property rights conveyed
• Financing terms
• Conditions of sale
• Market conditions (date of sale)
• Location
• Physical characteristics

Sequence of Adjustments
• Adjustments that are a percentage of the

comparable’s sale price, rather than a set dollar
amount must be made first, individually and in
sequence:
– Property rights
– Financing
– Condition of sale
– Market conditions
• Then all other adjustments may be combined

Property Rights Conveyed
• Usually involve fee simple, meaning that all

property rights typically transferred with real
property in the market are being conveyed

Financing Concessions
• Interest rate buydowns
• Below market rate financing
• Loan discount points
• Fees or closing costs paid by the seller (if
customarily paid by the buyer)
• Refunds or credits for borrower’s expenses
• The inclusion of non-realty items

Market Conditions (Date of Sale)
• Comparables that sold as recently as possible

• Older sale may have fluctuated due to market
conditions:
– Supply
– Demand
– Economic trends
– Interest rates, etc.
• Survey the market to consider whether an
adjustment is warranted

Location Considerations
• Market area where the comparable is located
• Exact position within a neighborhood
• If required, may use comps from nearest
similar market area with an appropriate
explanation and any necessary value
adjustments

Physical Characteristics
• List of features and amenities may or may not

warrant an adjustment
• Additional blank spaces where more items can
be inserted if other elements of comparison are
responsible for value differences between comp
and subject
• Describe items that are not quantifiable as
excellent, good, average, fair, or poor

Researching Property
Transfer History
• Ensure the integrity of the appraisal process
• Applies to the subject as well as the
comparables
• Validates whether the transactions represent
bona fide transfers at market value
• If not, the comparables should not be used to
support value
• Analyze the purchase contract, current listing,
and recent prior sales for the past three years

Property Flipping
• Fannie Mae: The process of purchasing

existing properties with the intention of
immediately reselling the properties for a profit
• Not necessarily illegal, but has a bad
reputation because of fraud potential if property
values are inflated

Reconciliation
• Determination of a final opinion of market value
for the subject property by analyzing all of the
data collected during the appraisal process
• Weight the comparables appropriately, never
average
• Results in an indicated value range
• Against USPAP rules to steer value to a targeted
price

Market Value
• The most probable price a property should

bring in a competitive and open market under
all conditions requisite to a fair sale, buyer
and seller, each acting prudently,
knowledgeably, and assuming the price is not
affected by undue stimulus

“As Is”
• Must indicate if appraisal was performed “as is,” or subject to other hypothetical
conditions or extraordinary assumptions
• Typical appraisal is done "as is," meaning that the property value was determined
based upon a complete and thorough examination of the subject property as it
currently sits and in its present condition

Recertification of Value (Recert)
• Used to confirm whether or not certain

conditions in original appraisal have been
met, as in a “subject to” condition
• Does not change the effective date of the
appraisal
• Validates the original opinion of value

Automated Valuation Models

• Provides a probable value range for properties
• Performs statistical analysis of available data
such as tax records
• Not true appraisals – do not give an opinion of
value
• Best for typical homes
• Fannie Mae’s Desktop Underwriter Property
Inspection Report-Form 2075

Home Valuation Code of Conduct

• Appraisal management company (AMC) accused of
conspiring with S&L to inflate real estate appraisals
• Agreement between NY attorney general, Fannie Mae,
Freddie Mac, and Federal Housing Finance Agency
(effective May 1, 2009)
• Not a federal law but intended to set standards to ensure
real estate appraisers are not coerced in any way
– Applies to 1- to 4-family homes
– Required for Fannie Mae and Freddie Mac loans
– Does not apply to FHA, VA, or USDA loans as originally
implemented


• Only lender or authorized third party may select, retain, and
compensate an appraiser
• Lenders may not:
– Use an appraisal report prepared by an employee
– Accept any appraisal report completed by appraiser selected, retained, or
compensated in any manner by any other third party, including mortgage
brokers and real estate agents
– Use any appraisal report that came from AMC owned by lender or its
affiliates unless lender owns less than 20% and has no role in day-to-day
operations
– Use any appraisal report from an entity owned in whole or in part by the
lender
– Order a second appraisal if attempting to influence outcome of first
appraisal.

• Lenders may use an in-house staff appraiser to:

– Order appraisals
– Conduct appraisal reviews or other quality control
– Develop, deploy, or use internal automated valuation models
– Prepare appraisals in connection with transactions other
than mortgage origination

• Mortgage brokers may not:

– Have any role in selecting, retaining, compensating
an appraiser
• Mortgage brokers may:
– Initiate appraisal process on lender’s behalf if
directed to submit application to authorized AMC
previously arranged by lender


• Lenders must provide borrower with copy of appraisal report
no less than 3 business days prior to closing (borrower may
waive the requirement)
• Lender may charge borrower for appraisal but not for the
copy of the report
• Lender may accept appraisal report from appraiser for a
different lender if:
– Obtain written assurance that other lender has adopted the Code
– Lender determines that the appraisal conforms to requirements and
is otherwise acceptable

• Lenders required to establish:

– Quality control process, random evaluation of 10%
– Telephone hotline and email address for complaints
about improper influence
• HVCC calls for creation of Independent
Valuation Protection Institute

Appraisals on FHA Loans

• Selected only by non-commissioned employees or third parties
• May use appraisal management company
• Loan production staff can have no substantive communication
with appraiser
• Lenders/third parties may not try to influence appraiser in any
way
• May order second appraisal only under specific circumstances
• Appraisers should only accept assignments in areas with which
they’re familiar

Summary
1. Appraisal—An opinion of value of
property, as of a specified date,
supportable by objective data. Follows a
well-defined process to value properties
using three different methods: Sales
comparison approach, cost approach, and
income approach. Uniform Standards of
Professional Appraisal Practice
(USPAP) rules and guidelines must be
followed so work is seen as complete,
accurate, and unbiased.

Summary
2. Uniform Residential Appraisal Report

(URAR)—appraisal report. Communicates
the opinion of value and the supporting
data. Primary Fannie Mae form used by
lenders for residential property appraisal
(Form 1004).

Summary
3. The sales comparison approach
compares subject property with other
recently sold comparable properties in
same market area. Fannie Mae requires
at least 3 comps. Only past sales may be
used. Looking for market value, the most
probable price a property should bring in
a competitive and open market.

Summary
4. Comparables must be similar to the subject,

recent sales, and in the same market area.
Adjustments are made to comparables for
differences; the subject never changes. Add
value to comp that lacks something the
subject has; subtract value if comp has
something extra. Only as of the day a
comparable was sold. Only for significant
features.

Summary
5. Sequence of adjustments is:

1. property rights conveyed
2. financing terms
3. conditions of sale
4. Market conditions (date of sale)
5. Location
6. Physical characteristics

Summary
6. Total Adjustments are limited by

secondary market. Total net adjustments
should not exceed 15% of comp’s price.
Total gross adjustments should not
exceed 25% of comp’s price.

Summary
7. Transfer History required by URUR.

Requires 3 years to look for inflated prices.
One way to detect flipping, buying and
selling quickly for a profit. Validates that
recent transfer price reflects market value.

Summary
8. Reconciliation—process of analyzing
values derived from different appraisal
approaches to arrive at a final opinion of
value. Uses an indicated value range to
reach a final value. Values of the different
approaches are never averaged to reach a
final value.

Summary
9. Automated Underwriting—value of the

property is initially determined using an
automated valuation model (AVM).
Provide a probable value range for
properties by performing a statistical
analysis of available data.

Summary
10. Recertification confirms whether or not

certain conditions in the original appraisal
have been met. Does not change the
effective date of the valuation. If appraisal
must be updated or readdressed, it must
be considered a new assignment by the
appraiser.

Summary
11. Home Valuation Code of Conduct

(HVCC) sets standards on solicitation,
selection, compensation, conflicts of
interest, and appraiser independence.
Applies to 1- to 4-family mortgages
intended to be sold to Fannie Mae or
Freddie Mac. Only a lender or any third-
party specifically authorized by the lender
may select, retain, and compensate an
appraiser.

Quiz
1. Which form is used most frequently for

residential appraisals?
a. FNMA
b. HVCC
c. URAR
d. USPAP

Quiz
2. Jack has been contracted to determine

the value of a large apartment building
for a potential investor. Which
appraisal method is probably the most
useful for this situation?
a. competitive market analysis
b. cost approach
c. income approach
d. sales comparison approach

Quiz
3. Which comparables are given the most

consideration when determining the
indicated value range with the sales
comparison approach?
a. any sale that occurred at least six months
prior
b. same sized homes from different
neighborhoods
c. those most similar to the subject
d. all of the above
Quiz
4. Which is NOT required for an arm’s length

transaction?
a. buyer and seller were not related
b. buyer obtained a conventional mortgage
through a lender
c. each party was acting in his or her own
best interests
d. seller made unusual financing
concessions

Quiz
5. Which of the following is a correct

adjustment?
a. The comparable has an extra bedroom, so
$3,000 is added to the subject price.
b. The comparable has an extra bedroom, so
$3,000 is subtracted from the subject price.
c. The comparable has an extra bedroom, so
$3,000 is added to the comparable price.
d. The comparable has an extra bedroom, so
$3,000 is subtracted from the comparable
price.
Quiz
6. Two homes are similar in every respect except one
has air conditioning and the other has a heat pump.
Both sold for $125,000. What can we conclude?
a. A heat pump is more desirable than air
conditioning.
b. Air conditioning is more desirable than a heat
pump.
c. Neither a heat pump nor air conditioning is a
significant feature.
d. There must be some information missing from the
question because air conditioning is always worth
more.

Quiz
7. Which is considered first in the

sequence of adjustments?
a. date of sale
b. location
c. physical differences
d. property rights conveyed

Quiz
8. When a percentage adjustment is made

for a sale concession, what is the result?
a. The comparable price is now the cash
equivalency.
b. The comparable price is now the time
adjusted normal sale price.
c. The subject is adjusted to the market.
d. Nothing, because sales concessions are
never percentage adjustments.

Quiz
9. Why are there guidelines on

adjustment limits?
a. because lenders wanted to limit the
number of loans being made
b. so appraisers do not adjust the subject
too much
c. to gauge how close a comparable
approximates the subject
d. to test which appraisers are more adept
at math skills

Quiz
10. On the URAR form, the transfer history

for the subject must be reported for
a. any suspicious transfers in the public
record.
b. the past three years.
c. the past year.
d. the same length as the comparables’
transfer history.

Quiz
11. A recert does NOT

a. address issues in a “subject to”
appraisal.
b. change the effective date of the
valuation.
c. confirm the validity of the original
opinion of value.
d. verify that conditions stated in the
original appraisal have been met.

Quiz
12. Under the provisions of the Home Valuation

Code of Conduct, who may select and
compensate an appraiser for a mortgage?
a. the borrower only
b. the lender only
c. the mortgage broker only
d. the real estate agent only

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Chapter 12

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 1

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 2

• Appraisal • Contributory Value

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 3

• Indicated Value • Reconciliation

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 4

Real Estate Appraisal

• An estimate or opinion of value as of a

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 5

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 6

• Sales Comparison Approach—compares

Uniform Standards of Professional

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 8

Sales Comparison Approach

• Compares the subject property with other

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 10

Finding Comparable Sales

• Typically use between 3 and 5 comparable sales

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 11

Rules for Adjusting Properties

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 13

• As of day the comps were sold

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 14

• Limited by Fannie Mae and others in the

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 15

Fannie Mae Guidelines

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 16

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 17

• Adjustments that are a percentage of the

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 18

Property Rights Conveyed

• Usually involve fee simple, meaning that all

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 19

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 20

Market Conditions (Date of Sale)

• Comparables that sold as recently as possible

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 21

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 22

• List of features and amenities may or may not

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 23

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 24

• Fannie Mae: The process of purchasing

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 25

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 26

• The most probable price a property should

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 27

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 28

Recertification of Value (Recert)

• Used to confirm whether or not certain

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 29

Automated Valuation Models

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 30

Home Valuation Code of Conduct

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 31

Home Valuation Code of Conduct

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 32

Home Valuation Code of Conduct

• Lenders may use an in-house staff appraiser to:

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 33

Home Valuation Code of Conduct

• Mortgage brokers may not:

Mortgage Lending P&P 3rd Edition/Updated Nov. 6, 2009 34

Home Valuation Code of Conduct