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New Survey Addresses Controversial Use of Cost Approach for Insurable Value

Changes in Fannie Mae Form 1004, which no longer requires an appraiser to complete the cost approach, has given rise to the latest hot topic: the use of the cost approach to valuation for residential lending purposes. A recent survey addresses the issue. The Real Estate and Lending division of Strategic Development Worldwide conducted a survey of chief appraisers for prominent national lending institutions and nationally based appraisal management companies, as well as independent fee appraisers who perform the appraisals for both types of these entities.

“The issue that came to the forefront was that when lenders were requesting [the cost approach], they were not looking … to further substantiate value, they were looking for a number to use for insurance purposes so that the homeowner hazard insurance would cover the mortgage in case of loss,” according to Vicky Zillioux, Managing Director for SDW’s Real Estate and Lending Consultancy, a private company specializing in organizational strategy, analysis and development. “That revelation then brought up the issue of liability and what additional responsibilities the appraiser was taking on, intended users’ discussions, and the use of disclaimers in the appraisal. No one seems to be getting what they need in the confusion.”

Zillioux added that “once [the Fannie] requirement changed, it revealed issues and added to the confusion within the lending industry regarding use of the numbers provided to determine insurance calculations for the property being used as collateral for the loan, creating a variety of questions with regard to appraiser and lender liabilities and secondary market expectations, to name just a few.”

The Bluebook International-sponsored survey sought to clarify appraiser concerns and practices, the needs and practices of the lender, and the expectations of the ultimate purchaser of the loan portfolio, according to a SDW release. “Each of these groups sees the causes for concern differently according to their business needs and there has been little attempt to bring both needs and concern together for a better understanding between vendors and lenders on the topic,” according to Bluebook.

Overall, the survey responses indicated that the cost approach should not be eliminated when it can be done accurately and when its use is appropriate. However, the lenders interviewed held the opinion that the cost approach is typically not performed correctly and therefore is not valid most of the time.

“The survey reveals critical information about how hazard insurance valuation during the mortgage finance transaction is being addressed,” Silvia San Nicolas, Senior Corporate Strategist for Bluebook International, said. “By understanding the practices, concerns and objectives of the appraiser, the lender and the secondary market … we [hope to] provide what the industry needs.”

The Bluebook provides “on demand” residential cost analysis and value reports for over 90 percent of the nation's single-family residences, including replacement, actual cash value, depreciation, structure value, property risk and repair costs. Fore more information, visit www.bluebook.net.

Source: www.appraisalinstitute.org/publications/ano/contents.asp