After beginning research for a paper for a class entitled "Litigation Issues in Valuation" in January of 1999, I began a path that took me to unexpected places.
My initial topic was going to be on Civil Liabilities for Appraisers. I soon discovered that Mark Levine, PhD, MAI, of Colorado had already published a book on that topic, with several updates. "Real Estate Appraisers' Liability" is 615 pages, published in 1998. It is mostly precedent setting court cases against appraisers, a far cry from the earlier seminar I had attended in 1987 by the SREA entitled "Real Estate Liability: How Far Does It Reach" by Wayne Whited, SRA of Tulsa.
I met Wayne and became friends and worked with him in the late 1980's and attended the pilot seminar. Back then there were no texts on the subject, lots of texts on Accountants Liabilities. There were even very few published court cases involving appraisers.
"But then, none of the cases from the S&L Crisis were published when Wayne wrote his seminar. Before that era was over, there were appraisers in federal prison for the first time. One in Texas was still working, with staff coming to the prison every day and he was signing reports. The AIREA changed their Ethics Rules to include "If a member is convicted of a fraud, we will expel them" or language to that effect."
Few in the industry really realize why we were licensed or what USPAP is used for or intended for. The financial crisis caused by the failing S&L's and banks, resulted in Congressional Hearings, often referred to as the Barnard Hearings because that was the name of the Chairman. Read on . . .
The results of their Hearings were published in a 2,000+ page book entitled "The Impact of Faulty and Fraudulent Real Estate Appraisals on Federally Insured Financial Institutions and Agencies of the Federal Government", a real bargain at $5.00.
The book is little more than the testimony provided by those who spoke to the Committee. One lender after another, banks and S&L's stood up and told them that all their bad loans were because of the appraisers and that something needed to be done. Appraisal organizations told a different story about client pressures and economic coercion. But we were a fragmented industry, and too small to stand up to the lobbying pressures all the lenders combined could bring. Some of the appraisal testimony included the fact that in some small markets, it was often the bank president who pressured the appraisers, sometimes with overt threats of no future business, the old you will never work in this town again kind of pressures.
A movement was a foot to license appraisers. Immediately NAR put its lobbying power and dollars to work, but some how once the licensing language was attached to the FIRREA bail out legislation, it passed. After which NAR tried to get their members grandfathered in. Appraisers united for the first time and fought this effort. Licensing became a law, the Appraisal Foundation was formed, USPAP was established, and each State set up a license board.
This was going to help prevent another banking disaster. Appraisals for loans would be done by licensed people, in theory. No one knew that business men and women would enter the field and put dozens of unlicensed people out doing inspection, or that criminals would be attracted to the business because the barriers to entry had been removed. Ease of entry cause by the low level of education required, allowed for much of the problems that exist today.
We went through the trough, through the bad years of recession. In my Region, there were four AFB closures or down-sizings, which exaggerated the problems. Some sub-markets did not really come back strong until 2001-2002.
All the while the lending world is changing. By about 1993 there began the growth and proliferation of the Sub-Prime Lending industry. And, HUD had done away with its appraisal ordering system and began allowing mortgage lenders to order their own appraisals.
In order to understand the impetus for what has happened in the intervening years, you need to know that a lender who has issued stock to the public, can enhance their stock price by booking more loans. The loans do not have to be good. But they do want them to have as many Points and Fees as possible. Remember too that managements role is to enhance the stock price for their shareholders. And, management bonuses are based on increasing the stock price.
So, if the loans booked are bad, everyone wins on the front end. If the loans go bad, they can be rewritten, or foreclosed on and resold. If a loss is taken, they can sue the appraisers. Loan churning or loan flipping came into use.
The real growth of the Sub Prime lending began to take off by about 1993. When graphed, sharp increases have occurred year after year as more and more mortgage banking firms were formed and as banks and S&L's got into the business either by starting departments or by buying existing operations.
By 1996-97 consumer advocate groups were complaining to various state and federal agencies that their members were being victimized, preyed upon by lenders. Seniors, older inner city neighborhoods and various affinity groups were being targeted by predatory lenders.
In CA by 1998 they got the California District Attorneys Association to help sponsor legislation that would allow each County in the State to vote in an Ordinance allowing up to $2.00 per property transfer to fund Real Estate Fraud Units in the DA's offices.
By 1999 at the Federal level, Congress authorized the Housing Fraud Initiative, which allowed funds for inter-agency cooperation in the area of investigations and prosecutions. A number of high profile cases were published, from Los Angeles, to the Twin Cities {that one involved a Nigerian Fraud Ring that owned a mortgage and appraisal operation}, to Charlotte, most major cities.
By 1999, HUD had identified Hot Zones in dozens of our major cities, where the default rate was 200-500% higher than the national average. By May 2001 they put a moratorium forbidding lenders from foreclosing in these zones, and they held public hearings on the problem in conjunction with the Federal Trade Commission. I spoke at the one in Los Angeles. {an interesting aside, the HUD maps that show the Hot Zones, are in Red, and mirror the formerly mortgage deficient, Red Lined area of Los Angeles. I am not sure about other areas but believe it is the same}.
My suggestion /recommendation was that they could stop all the fraud, property flipping and loan flipping by enlisting the help of the appraiser by rewarding them to turn in the perpetrators.
My formula was simple, HUD was loosing an average of $58,000 per foreclosure [national average]. I suggested they pay the appraisers 10% of that amount to help prevent the frauds from happening. I was told to sit down, my time was up. When I got to my seat, I saw Sara Swartzentraub, SRA who was there to present the AI position on the topic and I asked her if I had been given the hook, and she said yes, it was way less than the 3-minute time limit. It was obvious to me that there was no real interest in preventing these frauds. ACORN was there in force, they brought out the news media too {www.acorn.org}, the AARP was there also. So minorities and seniors were represented, as well as appraisers.
Then came 9/11 and Federal resources shifted. From that point on, there were no press releases on the Housing Fraud or Mortgage Fraud cases coming from the Feds. Mortgage Frauds of all kinds increased at an accelerating rate after 2001. A graph of the data is dramatic, an upward trending line to the right, almost vertical in the last three years.
Author: Steven R. Smith, MSREA, MAI, SRA, Smith Realty Advisors, Redlands, CA 92373
Real Estate Appraisals, Consulting, Expert Testimony, Forensic Reviews, Fraud Research and Analysis, Litigation Support, Fraud Training through the Association of Real Estate Professionals, the Appraisal Insitute. Phone: 909-798-8855, Fax: 909-798-0139
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