By RICHARD HEYN, SRA
ACI’s 2016 Compliance Series
As we develop new products for appraisers, compliance with industry standards is always front and center. Our objective is to help improve appraisal quality and provide efficiencies to the process. Everybody wins by connecting industry needs with appraisal reporting techniques through technology, industry guidance, and practical advice. This is ACI’s contribution to the industry – and we hope you find it informative and helpful. Enjoy.
"What’s the point?" That question expresses the sentiments that some appraisers have toward sales contract analysis. The argument is that the market value of the subject property “is what it is” regardless of what’s in the contract. Some appraisers even go so far as to advocate that appraisers should not have any knowledge of the contract price as it may (consciously or unconsciously) affect the appraiser’s ability to perform in an unbiased manner.
Conversely, other appraisers welcome the opportunity to analyze the contract. In the previous blog in this series, the focus was on USPAP and GSE obligations. In this blog, we’ll focus on how contract analysis is part of the valuation picture and its place in an appraiser’s opinions and conclusions.
Like the prior blog, this one is also written in the context of mortgage lending assignments reported on Fannie Mae/Freddie Mac (GSE) forms, or "GSE assignments."
The Sales Contract Shouldn’t Influence Your Opinion of Value – Right?
Appraiser Annie is doing what she likes best, appraising a single-unit dwelling in a cookie-cutter development. It’s a 10-year old, 2,000 square foot, well-maintained ranch-style dwelling that’s under contract for $250,000. Her review of the sales contract suggests that it’s a straightforward, arm’s-length transaction with no concessions. She contacts the listing and selling agents and learns that yes, the transaction is just what it appears to be. It meets “all conditions requisite to a fair sale” just as stated in the definition of Market Value on page 4 of the URAR form. Annie has some acceptable comps that, after adjustments, indicate values of $246,000, $248,000 and $250,000. In her judgment, none of the individual comparable sales is significantly “better” than the others. So what to do, she wonders. Weight the comps equally and go with $248,000? Or should she go to the top end of the range and finalize at $250,000? Pondering the likely consequences of reporting an opinion of value that is less than 1% below the sales price, she settles on $250,000. She also figures her subject transaction will be a useful comparable for future assignments.
Note two things have happened here. Annie has been influenced by the sales contract and she intends to use the current transaction as a future comparable.
It’s Okay to be Influenced by the Sales Contract
What’s interesting about situations like the one above is that the most common reason given for choosing the high end of the range seems to be "nobody’s that good" or, put another way, that the appraisal process is geared toward credibility but not the kind of precision to convincingly dispute a small difference between the sales price and what the opinion of value might have been if the assignment involved a refinance rather than a sale.
Perhaps we should be thinking in terms of "what is the sales contract telling me" rather than "nobody’s that good." If, in a competitive and open market, a buyer and seller negotiate a price "under all conditions requisite to a fair sale" does it not follow that the price will often represent the most probable price for which the property will sell?
Let’s not confuse influence with undue influence or, worse yet, bias. USPAP does not define the terms influence or undue influence but does have a definition for bias, which is "A preference or inclination that precludes an appraiser’s impartiality, independence, or objectivity in an assignment." Synonyms for bias include prejudice, partiality, unfairness and favoritism. Frankly, if reviewing a sales contract is going to create bias in an appraiser, that individual is in the wrong business.
The term undue influence is found in Appraiser Independence Requirements (AIR) from Fannie Mae and in Dodd-Frank. It refers to third-party activity designed to bias an appraiser and the term rightfully carries a negative connotation.
As a verb, influence is synonymous with words such as impact, guide and shape. As a noun, influence means "the capacity of have an effect." As appraisers we are looking to be influenced. It’s part of the job description. The intended use influences our scope of work. The intended users influence how much we report and how we communicate our assignment results. The relevant characteristics of a property influence our opinion of value. Identifying influences is a big part of what we do and some of those influential factors are found in the sales contract. So dig in to that sales contract, digest and analyze it and see how it influences your opinions and conclusions.
The Sales Contract as Data
If it’s OK to be influenced by the sales contract, it begs the question "to what degree?" Obviously, the contract can’t be perceived as a "target" number, but it may be a stronger data point than many appraisers consider it to be. Think back to our earlier example of Appraiser Annie. Two things happened. First, she was influenced by the sales contract in that she reconciled her opinion of value to the upper end of the range. Second, she intended to use the sale of the subject as a future comparable.
Think about the amount of information Annie has on the subject. By appraising the property, she has an abundance of information about its relevant characteristics; much more than she would have for a comparable sale she did not personally appraise. By reviewing, verifying and analyzing the contract, she has more information about the conditions of the sale than she would normally have for a comparable sale. She plans on using the data in future assignments. So why not use this data as part of the current assignment? Incorporating the contract data into the reconciliation comments for the current assignment strengthens the credibility of her assignment results. Put another way, if the data is good enough to use in future assignments, why not treat it as data in the current assignment?
Future blogs on this topic will discuss other good reasons for a thorough contract analysis and will delve into common contract components and summarizing analysis versus stating facts. Stay tuned.