I learned to appraise real estate in the early 1990s when the market was still cooling off from its 1990 peak.
Our biggest account was with the exclusive lender for a San Francisco Bay Area builder that desperately wanted to keep its prices propped up in every way possible to (1) preserve pricing power for future developments; (2) keep previous buyers from getting upset over falling prices; and (3) keep comparable sales data propped up so previous buyers could refinance and new sales would continue to appraise.
Because the market was softening though, the builder was offering larger and larger financing incentives and “upgrade” concessions in the form of garage and bonus room buildouts, better flooring and appliances, window treatments, and more.
We would initially say that such concessions were “typical for the market” because they were typical at the time, as many sellers of existing homes were also offering large closing cost credits.
But, the concessions finally got so large that the owner of the appraisal shop (an attorney and a commercial appraiser as well) said “no mas.” So, he called up the lender and the builder (two people he knew well) and they all worked out a new pricing strategy (with lower price points) that would allow us to continue to appraise homes at the contract price. This was in the olden days when people were rational, as the lower price points were definitely hard medicine to swallow for both the lender (costing him refinances) and the builder (for reasons stated above); to the credit of both the lender and the builder, they didn’t “shop” for a new appraiser who would do their bidding.
In response to yesterday’s blog – Lennar’s Offering 4.25% Mortgage Rates! Buyer Beware! – a savvy broker/owner asked me why appraisers don’t call out the enormous financing incentives that I described in the blog that can easily cost as much as 10% of the sales price.
Why Appraisers Don’t Call Out Enormous Concessions
There are several reasons why appraisers don’t call out enormous concessions.
- “Typical For Market.” If appraisers see that many builders are offering similarly large concessions, they will sometimes just say the concessions or incentives are “typical for the market,” without looking into them too deeply. Underwriters will buy off on that magical phrase as long as the comparable sales data supports the contract price (even if all the comparable sales have similarly large financing incentives).
- Builder Owns The Lender. Many builders own the lenders that are offering the financing concessions. This can foster a conflict of interest where the builder pressures the lender, which in turn pressures the appraisers. But, I am not calling anyone out here – to be clear.
- Appraisers Don’t Fully Understand Financing Concessions. Most appraisers (and most loan officers for that matter) don’t fully understand how much a hugely discounted interest rate can cost a builder. And, I suspect this is the main reason more appraisers don’t call out the discounts.
- Appraisers Need Work In Slow Markets. Most appraisers have tremendous integrity, but some may be willing to bend the rules a bit to keep the work coming when the market is this extraordinarily slow. In the early 1990s, in contrast, we had appraisal orders coming in from everywhere to accommodate a refi boom, so appraisers could readily afford to push back. There are very few refis now, so the situation is entirely different.
- Appraisers Will Push Back. And lastly, appraisers will start to push back when they see the concessions getting too large. I suspect there are a lot of conversations involving lenders, builders, and appraisers taking place right now even. “Hi Mr. Builder… you do realize that when you sell your $200,000 home with a financing incentive that costs $20,000, your effective price is $180,000, right?” “And, if you are offering $10,000 of additional flooring and appliance upgrades that you were not offering before, your effective price is only $170,000?”
