Will Technology Replace Appraisers
By Charlie Elliott, MAI, SRA

For at least 10 years or so, there has been a buzz going on in lending and appraisal circles. It might be occurring in the office cafeteria, trade publications, professional association meetings or at trade conferences. It has to do with a question which can cause quite a stir depending upon which camp you are in and how you put shoes on the feet of your children and bread on the table.

It all started, as best I can remember back in the ‘90s. This was just about the time when Automated Valuation Models (AVMs) first began to be used on any significant scale. This new tool was greeted with enthusiasm by lenders and not so enthusiastically by appraisers. One need not have a MBA from Harvard to quickly understand why these two camps, lenders and appraisers, might be at odds. Lenders are quick to tell anyone who will listen that the appraisal is the most difficult part of the mortgage-lending puzzle. Why would two groups of professionals be at such odds on an issue, which involves what many would consider a common sense approach to protecting the interest of the average citizen and taxpayer?

Herein lies the problem. The government, for all practical purposes, guarantees, in one of two ways all loans made in our country. The first guarantee is through the Government Sponsored Enterprises (GSEs), such as Fannie Mae and Freddie Mac, which buy mortgages from lenders. This system allows financial institutions to replenish their supply of mortgage capital to make additional loans once their capital is exhausted. The GSEs are not allowed to buy loans that do not meet their collateral guidelines, which, in most cases, require the opinion of a certified appraiser. The second guarantee is through the Federal Deposit Insurance Corp. (FDIC), which guarantees depositors that their money is safe when deposited in banks and other financial institutions. These deposits cannot be considered safe if banks make portfolio loans that are not sound.

In our country, either the GSEs or the FDIC or both do not cover very few mortgage loans are made that. We need not go back further than the savings-and-loan debacle of the 1980s to understand why federal regulators require that government-backed mortgage loans be properly underwritten and secured. Federal law changed after the multi-billion-dollar bailout through the Federal Institutions Reform, Recovery and Enforcement Act of 1989 (FIRREA). This law requires among other things that federally backed loans, depending upon the degree of risk, be secured by properties that have been appraised by state-certified real-estate appraisers. After this law was passed, all professional real-estate appraisers were required to become state certified, thus providing the mortgage industry with the environment in which we work today.

Given that the government is on the hook for most mortgages, lenders, in many cases, are for, all practical purposes, not using their own money. It is in their best interest to make as many loans as possible as economically and expeditiously as possible. Appraisers, justified or not, can become an obstacle in the path of the lending process in a number of ways. This obstacle may be from of delaying the closing of the transaction a week or more while the appraisal is being prepared or from an opinion of value, which prevents the loan from being made. For these reasons, most lenders would prefer not to go through the process of having an appraisal prepared. The appraiser, on the other hand, typically sees non-appraisal evaluations as inferior to true appraisals and a threat to his or her livelihood. This concept may better be understood by the loan originator, when compared to the possibility that his or her job could be eliminated due to new legislation requiring all banks to take loan applications over the Internet, thereby eliminating the loan originator.

Federal guidelines have loosened up somewhat in recent years, permitting loans to be made, in some cases, without a certified appraisal. In many of these cases, the alternative to the appraisal prepared by a certified appraiser is that of an AVM, a collateral evaluation tool born strictly out of technology. Depending upon whom you talk to, it would appear that about 15-to-20 % of all first mortgages are made using an AVM as an exclusive property evaluation tool. Said another way, today some 80 to 85% of all loans require a certified appraisal supporting the value of the collateral prior to the closing of a loan. On equity lines, which banks usually keep in their own portfolio, lenders report that AVMs are used on an estimated 50% of the loans as an exclusive method of collateral evaluation. The remaining 50% require some sort of appraisal.

The question is whether the industry will permit more, or all, collateral evaluations in the future to be made using AVMs, thereby eliminating the need for the appraiser.

While there undoubtedly will be many collateral evaluations performed electronically in the future, there are a number of reasons that the role of the appraiser is critical to the collateral evaluation process. There are two of which guarantee that the services of many appraisers will be needed in the future.

The first is that, while AVMs can provide accuracy in many instances, they are generally not as accurate as a certified appraisal. This is especially the case in less-populated areas having a less than homogenous stock of housing. Certified appraisers inspect houses and make judgmental decisions in a way not possible by electronic evaluations. Issues such as making allowances for design an appeal, property condition, property location as well as proving that the property actually exists can prove challenging to the most accurate AVM. Only people can do these things, and there will always be a need for this service.

Second, in today’s market there is more concern about fraud as well as the solvency of the GSEs. While this is not to say that appraisers cannot and do not participate in fraud, fraud is less likely when an independent appraiser is hired to locate the property, evaluate it and make a report of his or her findings. The key here is independence, where the appraiser is engaged by an unbiased party to the transaction. There is also quite a stir today on Capitol Hill about the financial strength of the GSEs. Most any legislation designed to address GSE financial strength will undoubtedly favor the use of more, not fewer, appraisals.

There will always be low-risk situations where appraisals are not required. To prove this, loans are made to individuals which require no collateral at all and that are based solely on the borrower’s perceived ability to repay the loan. In such cases if a house is thrown as additional security, for good measure, having an appraisal may be less necessary. Contrarily, a loan made to someone with questionable credit in an area where housing values are unstable and/or where there are few comparable sales will most surely require a certified appraisal. It has been my observation that, in some geographic areas, AVMs either cannot be performed at all or have an accuracy deviation which can amount to 50% or more of the value of the property.

So the lender and the appraiser should get use to one another. For the foreseeable future the appraiser’s job is safe and the lender can expect to use him.

Oh, and one last closing thought. AVMs in many if not most cases provide values less than that of an appraisal due to the age of the comparables and the shortcomings of the AVM to reflect adjustments. Lenders may just be able to make more and larger loans with the help of the appraiser when AVM values are lagging the market.