Buying a new home or refinancing your current home has a lot of steps and a lot of different processes that occur. But, the one that everyone seems to be the most aware of is the appraisal process. In order to get a loan, we need to get an appraisal done by a professional.
Should be about as simple as that, right?
Wrong. In 2009, Congress passed a new set of laws, that collectively are known as the Home Valuation Code of Conduct, or HVCC. In order to understand how this set of rules will affect you, it is helpful to understand what the history of these changes were and what caused the changes in the first place.
For a very long time, going back to even the 1960s, there has been a common scheme in the real estate market that bad actors have used to not only milk customers, but also to commit fraud against the lending institutions themselves. There are a lot of different ways that they scheme itself was actually pulled off, but generally, they all work the same way. A Realtor, a Loan Officer and an Appraiser will all work together to convince both a purchaser of a new home as well as the mortgage investors that a home is worth more than it actually is.
Essentially, the mortgage process is protected by checks and balances. If your Loan Officer is trying to fool you into thinking that the house you are buying is worth more than it is so that they can get a higher loan amount and make a higher commission, this is not going to work because first, the realtor will already have the house listed at a fair market price, and second, in order to close, an appraisal of the house will need to be done, and the appraiser will see that this is too high.
In the same vein, it works the other ways as well. If an appraisal is over-valued, the realtor will see this and call it out, and it will be moot because the purchase price will still be set at the true market value. The Loan Officer will run the appraisal through a compliance check and see that the value doesn’t correspond with the computer’s algorithm.
If an agent tries to list the house for considerably more than it is worth, well, the same thing will occur. The appraisal will still come back at a considerably lower value. And, even if it doesn’t, the Loan Officer’s AVM (automatic value modifier) will kick back a red flag and the borrower will be protected.
But, what would happen if all three of these people were working together?
Commonly, the scheme works because all three of these parties will own the property in question together. Typically, this is hidden from you, as the property will be owned by a trust or an LLC, and it would take a lot of digging to be able to determine that the owners are in fact the professionals that you are working with. The realtor will let you know that the value of the home is X, but “hey – don’t just trust me – you should definitely get the opinion of your Loan Officer.”
The Loan Officer lets you know that this seems to be in line with the values of other homes in the area, but hey, they are not an appraiser, so you really should rely on the results of a professional in this field. Here is the appraisal company that we use…
Then the appraisal comes back and Loan Officer and behold, the home is worth just what the agent told you!
Only years later when you try to sell or refinance your mortgage do you find out that the home you bought is worth nothing close to what you actually still owe.
You should now have a pretty good understanding of Home Valuation Code of Conduct and how important “independence” is in the appraisal process. In the next post, we’ll move on and talk about what Congress did to combat this scheme and how it will actually affect you.