E&O Insurance for Appraisers - How Much Is Enough?

Question on the WinTOTAL Users Group: Your comment got me to thinking. I am currently insured at $1M. I do appraisals from $64k to $3.3M+ as I am in SW Florida. In this year I have done 19 assignments that exceed $1M.  What level of insurance would be necessary. I feel my personal assets need insuring for less than $500k.  Would more insurance be a waste or should I increase my levels?

Response: I think that's a question best put to one's E&O insurance provider, but I also believe that each of us needs to get a feel for exactly what our "risks" might be.  We also need to be aware that E&O insurance does NOT protect or cover appraisers that are guilty of negligence or fraud.

Even if one does an appraisal on a home that is valued at $1M, what are the chances (risks) that the appraiser will be sued for the full value of the home?  Is it more likely that they will be sued for "damages" that are substantially less?

What exactly DO appraisers typically get sued for?

Real estate appraiser claims are unexpected and can happen to most any organization. Most real estate appraiser's professional liability claims are triggered by a transaction that results in a valuation that is less than the appraised value.

The following example is representative of a typical appraiser's claim:

An insured real estate appraiser appraised a property for a lender, and the lender provided a mortgage to the buyer. Subsequently, the buyer defaulted on the mortgage and the lender foreclosed. The lender recovered less than the original loan amount, which was also significantly less than the appraised value. The lender brought a claim against the appraiser claiming the appraisal was negligently completed.

A number of other claim examples are noted below . . . .

Example 1: The insured real estate appraiser was asked to do limited review of an appraisal previously submitted for a loan application. The insured appraiser was unable to view the condo property because it was located in a gated community. The appraiser noted this on his report. The lender sold the property at foreclosure for a loss, and claimed a scheme by the appraiser to inflate the property value.

Example 2: The insured real estate appraiser appraised a home for a lender. The lender then sold the loan to another investor (the plaintiff). The property owner defaulted on the loan and the plaintiff foreclosed. The value of property was not sufficient to cover the amount of the loan. A suit was filed against the property owner, who in turn filed a cross complaint against the insured real estate appraiser alleging the $680,000 appraisal was inaccurate and negligently performed.

Example 3: In order to close a new purchase, the insured real estate appraiser performed an appraisal for a lender. The owner defaulted, the lender foreclosed and the property value turned out to be significantly less than the loan amount and the appraised value. Upon reviewing the appraisal, the lender determined that the appraiser had appraised the wrong property, and brought a claim for negligence against the appraiser.

Example 4: This case is longer and more complex.

Real estate appraisers are typically contracted to provide a property valuation to owners and lenders involved in the purchase or sale of a property. While an appraisal doe not guarantee value to the parties involved, it does provide some measure of relative value based on comparable transactions. Various parties’ expectations as to the extent to which they may rely on and be protected by an appraisal vary.

A court decision (state level) demonstrates a situation where a lender’s expectations of the degree of protection provided by an appraisal were unreasonable, in the court’s eyes. The case also demonstrates the potential complexities of the appraisers’ role in a real estate transaction.

The court determined an appraiser may be found negligent for failing to properly assess the value of real estate, but cannot be held liable for subsequent real estate market declines that increase the lender’s losses upon foreclosure if that was not a condition of the appraisal.

In this case the appraiser provided the lender with an appraisal for a refinancing with a value of $550,000 and the lender provided a mortgage of $380,000. The bank subsequently foreclosed on and disposed of the property at a loss. At the time the bank foreclosed on the property the property was appraised at $350,000.

The lender brought a claim against the appraiser which subsequently went to trial. The trial court found the appraiser liable for providing an inaccurate appraisal inconsistent with professional guidelines. The appraiser factored into the property’s value two basement-level bedrooms that increased the living area by 750 square feet. The appraisal also made no mention of the sale of a comparable home on the very same road only two months earlier for $252,500. Instead, it listed "comparable" sale prices for homes a mile or more away. It also apparently inflated the value of the lot on which the house sits by more than $100,000.

At trial the lender argued that they would not have refinanced the property if the appraisal had been accurate. Therefore, the appraiser was liable for the decline in the property’s value because of an overall 28 percent decline in real estate values in the two years between the time the bank refinanced and when it ultimately sold the property at auction.

On appeal to the state Supreme Court, the court unanimously disagreed. In the decision the court stated that "the appraiser’s duty to the bank in conducting the appraisal, in these circumstances, did not extend to protecting the bank from loss arising from a subsequent general decline in real estate values, even if such a decline had been foreseeable." Although the property’s value continued to diminish, the court ruled the bank’s damages "were fixed at the time of strict foreclosure, when it gained title to the property." The court determined that the lender suffered a net loss of $46,000 on the transaction due to the flawed appraisal.

On another angle, the appraiser, on appeal, challenged whether there was sufficient evidence presented to prove the bank relied on the appraisal in deciding to issue the mortgage. The court ruled this claim had no merit.

This case is a particularly complex situation and the court’s ruling is based on the specific facts. There is no intent by the court to create a broad indemnification of appraisers for their failure to foresee real estate market declines.  Click here for a summary of the court decision.

CONCLUSION:  Get informed about the "types" of lawsuits that are being brought against appraisers.  Learn the techniques to limit your exposure.  Read and understand the limits and provisions of your E&O policy. 

Thanks to Tenant Risk Services - source of the examples above.

Related Article: Help - I Got Sued!