Realtors and appraisers are familiar with one of today’s definition of fair market value as something along the lines of “the most probable price, as of a specified date, in cash, or in terms equivalent to cash, or in other precisely revealed terms, for which the specified property rights should sell after reasonable exposure in a competitive market under all conditions requisite to a fair sale, with the buyer and seller each acting prudently, knowledgeably, and for self-interest, and assuming that neither is under undue duress.” Some realtors and appraisers may also remember when the Appraisal Institute (originally American Institute of Real Estate Appraisers) was an affiliate of the National Association of Realtors.
Before the Savings and Loan Crisis of 1986, fair market value was defined by the National Association of Realtors (NAR) and the lending industry, was the “highest price” as the expected standard.. This was a time of high interest rates and inflation. In 1980, the Depository Institutions Deregulation and Monetary Control Act was created after $700 billion was spent in 1976 and $1.5 trillion by 1980. In 1986, the Tax Reform Act (26 U.S.C. 469) was enacted. In 1989, the Financial Institutions Reform, Recovery, and Enforcement Act, also referred as FIRREA or the Savings & Loan Bailout Bill, created appraisal licensing via Title XI, the Appraisal Foundation and its two independent boards, the Appraiser Qualifications Board (AQB) and the Appraisal Standards Board (ASB). Certificate of Deposit’s were not insured by the FDIC and large banks, , the ASB drafted the Uniform Standards Policies and Procedures (USPAP) as further guidance and regulation and establish public trust. After multiple bank closures such as Lincoln Savings and Loan, the Resolution Trust Corporation filtered through assets. To protect the banks in the future and lower lender’s risk, the National Association of Realtor’s definition of fair market value also changed. Following April 30, 1990, the Appraisal Institute also became its own entity and separated from the NAR.
Did anyone see the deceptive practices after the lessons of the last cycle, from the 1980’s onward? With the investment banking sector not regulated as intently, questionable AAA bond credit ratings for packages caused by subprime loans were the components contributing to the perfect storm that saw the real estate bubble burst and the almost complete collapse of the global economy. These included bad loans, derivatives predicting risk, insurance being sold against this risk and investors relying on these false AAA ratings, combined with the toxic meltdown. Seeing their market share and profit margin decrease, Fannie Mae and Freddie Mac soon subscribed to the same questionable lending practices as did the investment banker in the private sector.
In light of economic crisis that began in late 2008, what lessons will our nation learn from this crisis, beyond any moral and ethical reconsideration? What legislative steps will be taken to regulate an industry that seems to have gone awry? Or hopefully protect the American tax payer from future “necessary” bailouts to preserve corporate entities deemed “too large to fail” who themselves engaged in risky behavior that put them in position to do exactly that, fail.
Dichotomy of Fiduciary Differences
With the Realtor bound to the seller to obtain the highest price, the appraiser interest to protect the lender’s exposure especially in a declining market, the difference can sometimes be (5-10%) of a differential. The Realtor could state that a single family residences’ highest value is $600,000 (maximum high for client interest) by way of fair market value under which the realtors operate. Subsequently, the appraiser could value the same property at $575,000 as the most probable or the mid-range given the same comparables. The lender could still perceive the fair market value to be lower, for example, if the appraiser classified the geographical market as a “declining neighborhood” on the URAR form. These are examples of competing interests that often lose sight of the supposed independent role of an appraiser and can often force him or her to have to serve multiple masters.
An example of the competitive nature of the once booming mortgage market and its impact on lender’s practices can be taken from mortgage giants, Fannie Mae and Freddie Mac. In the past, these entities declined lending to a would-be property owner if the parcel they sought ownership was in a neighborhood deemed to be in decline. However, with the increase of mortgage products made available to consumers via the private sector, Fannie and Freddie decided to relax the neighborhood requirement in one example to remain competitive. It has been speculated that Fannie and Freddie continue this practice to this day as a way of promoting first time home ownership to an American public that still finds itself mired in a continued credit crunch, thus making it almost impossible to obtain financing.
Future Value Discrepancies
With the last two real estate cycles requiring the need for lender oversight and appraisal regulation, the future velocity of sales, borrowing and appreciation will eventually return. However, the logic behind setting and accepting a property’s value, whether a down or an up market, will continue to carry concern between the interests of the principals and the financial investors lending the funds. 1996 to the second half of 2007 was an up market. 2008 to today (depending on the neighborhood or micro-market) being a down market, values are expected to drop further due to unemployment. After subprime mortgages defaulted upon their rates resetting and with two income households becoming one income households (continuing high unemployment rate) with limited savings in the bank; lenders may continue to remain cautious with hopes of preserving equity if values do dip again.
By Angelina Carleton and Ron Wrobel, certified appraisers.
Angelina Carleton is a principal at Carleton Appraisal Services as well as a commercial broker with NAI
Capital. Professional training has been through CCIM, CCIPS, the Urban Land Institute and the US Green Building Council. Angelina can be reached at firstname.lastname@example.org
Ron Wrobel has been established in the area since 1982 as a professional commercial and residential real estate appraisal, sales, advisory, and consulting firm. Ron can be reached at email@example.com.