Tens of thousands of sellers across America were probably shortchanged on appraisals during the pandemic, with valuations that came in for less than their homes were actually worth, a new government report indicates.
Because some appraisals did not keep up with rising prices, sellers often had to lower their prices or their buyers either had to renegotiate their offers or come up with more cash at closing. In some cases, buyers might have had to accept costlier loan terms.
Owners who were looking to refinance their places also were impacted. They, too, were forced to either accept less attractive loan terms, borrow less money or cancel their transactions altogether because their homes were valued too low.
The real estate community has long complained about appraisals that lagged the market, but the report from the Federal Housing Finance Agency documents that their gripes are valid: Undervaluations spiked to 15 percent in 2021.
Appraisals that were too low slipped back down to 12 percent in 2022. But, from 2013 to 2020, the annual rate of appraisals that come in below the contract price was normally in the 7 percent-9 percent range, the FHFA said. Last year, when prices were not rising as quickly, the agency says the rate returned to more typical levels.
To recognize that values are rising quickly, appraisers have the ability to alter their valuations by using what’s called “time adjustments.” But the agency found they rarely used the technique. And when they did, their allowances for rising prices were usually less than what house price indexes suggested. In some cases, far less.
Neither The Appraisal Foundation nor the Appraisal Institute had responded to requests for comment by my deadline for this column.
Time Delay on Comps a Factor
Appraisals hinge largely on the prices comparable houses sold for in recent months. But because comps sometimes lag the market by as long as six months, appraisers are allowed to adjust their valuations based on current market conditions, up or down. If prices are rising rapidly, they can set their findings higher. Conversely, if they are falling quickly, they can adjust their valuations lower.
But the FHFA found that even when adjustments are warranted, “appraisers frequently do not make time adjustments.” And when they do, the agency said, the adjustments “are typically substantially smaller” than the indexes used to measure home prices on a monthly basis would suggest.
In its analysis, which covered the third quarter of 2018 through the fourth quarter of 2021, house prices grew annually from 5 percent to 18 percent. And because the comps used in the appraisals studied were typically six months old, the study says time adjustments could have been anywhere from 2.5 percent to 9 percent, on average.
On a property valued at, say, $300,000, the appraisal could have been from $7,500 to $27,000 higher had the appraiser chosen to make a time adjustment. On a $500,000 house, the valuation could have been anywhere from $12,500 to $45,000 higher.
But appraisers rarely went that extra mile. For most of the studied period, fewer than 10 percent of all similar sales were time adjusted by appraisers. And when prices were rising rapidly in 2021, “time adjustment frequency rose to only about 25 percent.
“While adjustments are not necessarily expected in every case,” the report says, “these rates seem to be considerably lower than local price growth would warrant.”
Were Adjustments Even Necessary?
The analysis suggests that appraisers failed to make time-related adjustments because they were too small to be of much consequence. But in so doing, it says, they assumed an adjustment of zero, which all but made their valuations inaccurate.
The study found that time-related adjustments were unnecessary for a little more than a third of the properties studied where an adjustment of between -1 percent to 2 percent was estimated. Consequently, appraisers should have time adjusted nearly two-thirds of their comps, “far greater than the 13 percent they actually adjusted.”
The FHFA analysis also found that actual time adjustments from 1 percent-3 percent were fairly accurate – “within a few tenths of a percentage point” – when they were lined up against what the predicted adjustment called for. But as the expected adjustment grew larger, so did the discrepancy.
When the predicted change was 5 percent, the actual adjustment averaged just 3 percent. And when the predicted conversion was 10 percent, the actual one was only 5 percent, or half of what was called for.
The report does not try to figure out why appraisers underutilize time adjustments, leaving that to a future analysis. But it does suggest that one factor could be the “analytically complex calculations” that appraisers have to do to make them. Another reason might be that market data can be scant and decentralized – or even too expensive.
Whatever the reasons, though, the report verifies what many sellers complain about during times when house prices are rising rapidly: Appraisers either can’t or won’t keep up with market conditions.
Lew Sichelman has been covering real estate for more than 50 years. He is a regular contributor to numerous shelter magazines and housing and housing-finance industry publications. Readers can contact him at email@example.com.