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United States Government Accountability Office: 


Before the Subcommittee on Insurance, Housing and Community 
Opportunity, Committee on Financial Services, House of Representatives: 

For Release on Delivery: 
Expected at 2:00 p.m. EDT:
Wednesday, July 13, 2011: 

Residential Appraisals: 

Opportunities to Enhance Oversight of an Evolving Industry: 

Statement of William B. Shear, Director: Financial Markets and 
Community Investment: 


Chairman Biggert, Ranking Member Gutierrez, and Members of the 

I am pleased to be here today to discuss our work on residential real 
estate valuations. Real estate valuations, which encompass appraisals 
and other value estimation methods, play a critical role in mortgage 
underwriting by providing evidence that the market value of a property 
is sufficient to help mitigate losses if the borrower is unable to 
repay the loan. However, recent turmoil in the mortgage market has 
raised questions about mortgage underwriting practices, including the 
quality and credibility of some valuations. An investigation into 
industry appraisal practices by the New York State Attorney General 
led to an agreement in 2008 between the Attorney General; Fannie Mae 
and Freddie Mac (the enterprises); and the Federal Housing Finance 
Agency (FHFA), which regulates the enterprises. This agreement 
included the Home Valuation Code of Conduct (HVCC), which set forth 
certain appraiser independence requirements for loans sold to the 
enterprises and took effect in 2009. The Dodd-Frank Wall Street Reform 
and Consumer Protection Act (Pub. L. No. 111-203) (the Dodd-Frank Act) 
directed us to study the effectiveness and impact of various valuation 
methods and the options available for selecting appraisers, as well as 
the impact of HVCC.[Footnote 1] 

My statement summarizes the report we are releasing today, which 
responds to the mandate in the Dodd-Frank Act.[Footnote 2] Our work 
focused on valuations of single-family residential properties for 
first-lien purchase and refinance mortgages. The report discusses (1) 
the use of different valuation methods and their advantages and 
disadvantages, (2) policies and other factors that affect consumer 
appraisal costs and requirements for lenders to disclose appraisal 
costs and valuation reports to consumers, and (3) conflict-of-interest 
and appraiser selection policies and views on the impact of these 
policies on industry stakeholders and appraisal quality. We consider 
the impact of HVCC throughout the report. To do this work, we analyzed 
proprietary data we obtained from the enterprises, lenders, and a 
mortgage technology company on the use of different valuation methods 
and appraisal approaches.[Footnote 3] We reviewed academic and 
industry literature and examined federal regulations and policies, as 
well as internal policies and procedures of lenders. Finally, we 
interviewed a broad range of appraisal and mortgage industry 
participants and observers and discussed these issues with officials 
from the enterprises, FHFA, the federal banking regulatory agencies, 
and other federal agencies. The work that this statement is based on 
was performed from July 2010 to July 2011 in accordance with generally 
accepted government auditing standards. Those standards require that 
we plan and perform the audit to obtain sufficient, appropriate 
evidence to provide a reasonable basis for our findings and 
conclusions based on our audit objectives. We believe that the 
evidence obtained provides a reasonable basis for our findings and 
conclusions based on our audit objectives. 

The Widespread Use of Appraisals for Mortgage Originations Reflects 
Their Advantages Relative to Other Valuation Methods: 

Available data and interviews with lenders and other mortgage industry 
participants indicate that appraisals are the most frequently used 
valuation method for home purchase and refinance mortgage 
originations. Appraisals provide an opinion of market value at a point 
in time and reflect prevailing economic and housing market conditions. 
[Footnote 4] Data provided to us by the five largest lenders (measured 
by dollar volume of mortgage originations in 2010) show that, for the 
first-lien residential mortgages for which data were available, these 
lenders obtained appraisals for about 90 percent of the mortgages they 
made in 2009 and 2010, including 98 percent of home purchase 
mortgages. The data we obtained from lenders include mortgages sold to 
the enterprises and mortgages insured by the Federal Housing 
Administration (FHA), which together accounted for the bulk of the 
mortgages originated in 2009 and 2010. The enterprises and FHA require 
appraisals to be performed for a large majority of the mortgages they 
purchase or insure. For mortgages for which an appraisal was not done, 
the lenders we spoke with reported that they generally relied on 
validation of the sales price (or loan amount in the case of a 
refinance) against a value generated by an automated valuation model 
(AVM), in accordance with enterprise policies that permit this 
practice for some mortgages with characteristics associated with a 
lower default risk.[Footnote 5] 

The enterprises, FHA, and lenders require and obtain appraisals for 
most mortgages because appraising is considered by mortgage industry 
participants to be the most credible and reliable valuation method for 
a number of reasons. Most notably, appraisals and appraisers are 
subject to specific requirements and standards. In particular, the 
Uniform Standards of Professional Appraisal Practice (USPAP) outlines 
the steps appraisers must take in developing appraisals and the 
information appraisal reports must contain.[Footnote 6] USPAP also 
requires that appraisers follow standards for ethical conduct and have 
the competence needed for a particular assignment. Furthermore, state 
licensing and certification requirements for appraisers include 
minimum education and experience criteria, and standardized report 
forms provide a way to report relevant appraisal information in a 
consistent format. 

In contrast, other valuation methods, such as broker price opinions 
(BPO) and AVMs, are not permitted for most purchase and refinance 
mortgage originations.[Footnote 7] The enterprises do not permit 
lenders to use BPOs for mortgage originations and only permit lenders 
to use AVMs for a modest percentage of mortgages they purchase. 
Additionally, the federal banking regulators' guidelines state that 
BPOs and AVMs cannot be used as the primary basis for determining 
property values for mortgages originated by regulated institutions. 
However, the enterprises and lenders use BPOs and AVMs in a number of 
circumstances other than purchase and refinance mortgage originations 
because these methods can provide quicker, less expensive means of 
valuing properties in active markets. 

When performing appraisals, appraisers can use one or more of three 
approaches to value--sales comparison, cost, and income. The sales 
comparison approach compares and contrasts the property under 
appraisal with recent offerings and sales of similar properties. The 
cost approach is based on an estimate of the value of the land plus 
what it would cost to replace or reproduce the improvements minus 
depreciation. The income approach is an estimate of what a prudent 
investor would pay based upon the net income the property produces. 
USPAP requires appraisers to consider which approaches to value are 
applicable and necessary to perform a credible appraisal and provide 
an opinion of the market value of a particular property. Appraisers 
must then reconcile values produced by the different approaches they 
use to reach a value conclusion. 

The enterprises and FHA require that, at a minimum, appraisers use the 
sales comparison approach for all appraisals because it is considered 
most applicable for estimating market value in typical mortgage 
transactions. Consistent with these policies, our review of valuation 
data that we obtained from a mortgage technology company--representing 
about 20 percent of mortgage originations in 2010--indicates that 
appraisers used the sales comparison approach for nearly all (more 
than 99 percent) of the mortgages covered by these data. The cost 
approach, which was generally used in conjunction with the sales 
comparison approach, was used somewhat less often--in approximately 
two-thirds of the transactions in 2009 and 2010, according to these 
data. The income approach was rarely used. Some mortgage industry 
stakeholders have argued that wider use of the cost approach in 
particular could help mitigate what they view as a limitation of the 
sales comparison approach. They told us that reliance on the sales 
comparison approach alone can lead to market values rising to 
unsustainable levels and that using the cost approach as a check on 
the sales comparison approach could help lenders and appraisers 
identify when this is happening. For example, these stakeholders 
pointed to a growing gap between average market values and average 
replacement costs of properties as the housing bubble developed in the 
early to mid-2000s. However, other mortgage industry participants 
noted that a rigorous application of the cost approach may not 
generate values much different from those generated using the sales 
comparison approach. They indicated, for example, that components of 
the cost approach--such as land value or profit margins of real estate 
developers--can grow rapidly in housing markets where sales prices are 
increasing. The data we obtained did not allow us to analyze the 
differences between the values appraisers generated using the 
different approaches. 

Recent Policy Changes May Affect Consumer Costs for Appraisals, while 
Other Policy Changes Have Enhanced Disclosures to Consumers: 

Factors such as the location and complexity of the property affect 
consumer costs for appraisals. For example, a property may have unique 
characteristics that are more difficult to value, such as being much 
larger than nearby properties or being an oceanfront property, which 
may require the appraiser to take more time to gather and analyze data 
to produce a credible appraisal. Mortgage industry participants we 
spoke with told us that the amount a consumer pays for an appraisal is 
generally not affected by whether the lender engages an appraiser 
directly or uses an appraisal management company (AMC)--which manages 
the appraisal process on lenders' behalf--to select an appraiser. 
[Footnote 8] They said that AMCs typically charge lenders about the 
same amount that independent fee appraisers would charge lenders 
directly, and lenders generally pass on these charges to consumers. In 
general, lenders, AMC officials, appraisers, and other industry 
participants noted that consumer costs for appraisals have remained 
relatively stable in the past several years. However, appraisers have 
reported receiving lower fees when working with AMCs compared with 
working directly with lenders because AMCs keep a portion of the total 

A provision in the Dodd-Frank Act that requires lenders to pay 
appraisers a customary and reasonable fee could affect consumer costs 
and appraisal quality, depending on interpretation and implementation 
of federal rules.[Footnote 9] The effect of this change on consumer 
costs may depend on the approach lenders and AMCs take in order to 
demonstrate compliance. For example, some lenders and industry groups 
are having fee studies done to determine what constitutes customary 
and reasonable fees. According to the Dodd-Frank Act, these studies 
cannot include the fees AMCs pay to appraisers. As a result, some 
industry participants, including some AMC officials, expect these 
studies to demonstrate that appraiser fees should be higher than what 
AMCs are currently paying. If that is the case, these lenders would 
require AMCs to increase the fees they pay to appraisers to a rate 
consistent with the findings of those studies, which in turn could 
increase appraisal costs for consumers. However, some lenders are 
evaluating the possibility of no longer using AMCs and engaging 
appraisers directly, which would eliminate the AMC administration fee 
from the appraisal fee that consumers pay. 

Other recent policy changes that took effect in 2010 aim to provide 
lenders with a greater incentive to estimate costs accurately when 
providing consumers with an estimated price for third-party settlement 
services, including appraisals. If actual costs exceed estimated costs 
by more than 10 percent, the lender is responsible for making up the 
difference. The Dodd-Frank Act permits, but does not require, lenders 
to separately disclose to consumers the fee paid to the appraiser by 
an AMC and the administration fee charged by the AMC.[Footnote 10] 
Another policy change enhances disclosures by requiring lenders to 
provide consumers with a copy of the valuation report prior to closing. 

Conflict-of-Interest Policies Have Changed Appraiser Selection 
Processes, with Implications for Appraisal Oversight: 

Recently issued policies reinforce long-standing requirements and 
guidance designed to address conflicts of interest that may arise when 
direct or indirect personal interests bias appraisers from exercising 
their independent professional judgment. In order to prevent 
appraisers from being pressured, the federal banking regulators, the 
enterprises, FHA, and other agencies have regulations and policies 
governing the selection of, communications with, and coercion of 
appraisers. Examples of recently issued policies that address 
appraiser independence include HVCC, which took effect in May 2009; 
the enterprises' new appraiser independence requirements that replaced 
HVCC in October 2010; and revised Interagency Appraisal and Evaluation 
Guidelines from the federal banking regulators, which were issued in 
December 2010. Provisions of these and other policies address (1) 
prohibitions against loan production staff involvement in appraiser 
selection and supervision; (2) prohibitions against third parties with 
an interest in the mortgage transaction, such as real estate agents or 
mortgage brokers, selecting appraisers; (3) limits on communications 
with appraisers; and (4) prohibitions against coercive behaviors. 

According to mortgage industry participants, HVCC and other factors 
have contributed to changes in appraiser selection processes--in 
particular, lenders' more frequent use of AMCs to select 
appraisers.[Footnote 11] Some appraisal industry participants said 
that HVCC, which required additional layers of separation between loan 
production staff and appraisers for mortgages sold to the enterprises, 
led some lenders to outsource appraisal functions to AMCs because they 
thought using AMCs would allow them to easily demonstrate compliance 
with these requirements. In addition, lenders and other mortgage 
industry participants told us that market conditions, including an 
increase in the number of mortgages originated during the mid-2000s, 
and lenders' geographic expansion over the years, put pressure on 
lenders' capacity to manage appraisers and led to their reliance on 

Greater use of AMCs has raised questions about oversight of these 
firms and their impact on appraisal quality. Direct federal oversight 
of AMCs is limited. Federal banking regulators' guidelines for 
lenders' own appraisal functions list standards for appraiser 
selection, appraisal review, and reviewer qualifications. The 
guidelines also require lenders to establish processes to help ensure 
these standards are met when lenders outsource appraisal functions to 
third parties, such as AMCs. Officials from the federal banking 
regulators told us they review lenders' policies and controls for 
overseeing AMCs, including the due diligence they perform when 
selecting AMCs. However, they told us they generally do not review an 
AMC's operations directly unless they have serious concerns about the 
AMC and the lender is unable to address those concerns. In addition, a 
number of states began regulating AMCs in 2009, but the regulatory 
requirements vary and provide somewhat differing levels of oversight, 
according to officials from several state appraiser regulatory boards. 

Some appraiser groups and other appraisal industry participants have 
expressed concern that existing oversight may not provide adequate 
assurance that AMCs are complying with industry standards. These 
participants suggested that the practices of some AMCs for selecting 
appraisers, reviewing appraisal reports, and establishing 
qualifications for appraisal reviewers--key areas addressed in federal 
guidelines for lenders' appraisal functions--may have led to a decline 
in appraisal quality. For example, appraiser groups said that some 
AMCs select appraisers based on who will accept the lowest fee and 
complete the appraisal report the fastest rather than on who is the 
most qualified, has the appropriate experience, and is familiar with 
the relevant neighborhood. AMC officials we spoke with said that they 
have processes that address these areas of concern--for example, using 
an automated system that identifies the most qualified appraiser based 
on the requirements for the assignment, the appraiser's proximity to 
the subject property, and performance metrics such as the timeliness 
and quality of the appraiser's work. 

While the impact of the increased use of AMCs on appraisal quality is 
unclear, Congress recognized the importance of additional AMC 
oversight in enacting the Dodd-Frank Act by placing the supervision of 
AMCs with state appraiser regulatory boards. The Dodd-Frank Act 
requires the federal banking regulators, FHFA, and the Bureau of 
Consumer Financial Protection to establish minimum standards for 
states to apply in registering AMCs, including requirements that 
appraisals coordinated by an AMC comply with USPAP and be conducted 
independently and free from inappropriate influence and coercion. 
[Footnote 12] This rulemaking provides a potential avenue for 
reinforcing existing federal requirements for key functions that may 
impact appraisal quality, such as selecting appraisers, reviewing 
appraisals, and establishing qualifications for appraisal reviewers. 
Such reinforcement could help to provide greater assurance to lenders, 
the enterprises, and federal agencies of the quality of the appraisals 
provided by AMCs. 

To help ensure more consistent and effective oversight of the 
appraisal industry, the report we are issuing today recommends that 
the heads of the federal banking regulators (FDIC, the Federal 
Reserve, NCUA, and OCC), FHFA, and the Bureau of Consumer Financial 
Protection--as part of their joint rulemaking required under the Dodd-
Frank Act--consider including criteria for the selection of appraisers 
for appraisal orders, review of completed appraisals, and 
qualifications for appraisal reviewers when developing minimum 
standards for state registration of AMCs. In written comments on a 
draft of our report, the federal banking regulators and FHFA agreed 
with or indicated they will consider this recommendation. The Bureau 
of Consumer Financial Protection did not receive the draft report in 
time to provide comments. 

Chairman Biggert, Ranking Member Gutierrez, and Members of the 
Subcommittee, this concludes my prepared statement. I am happy to 
respond to any questions you may have at this time. 

GAO Contact and Staff Acknowledgments: 

For further information on this testimony, please contact me at (202) 
512-8678 or Contact points for our Offices of 
Congressional Relations and Public Affairs may be found on the last 
page of this statement. Key contributors to this testimony include 
Steve Westley, Assistant Director; Don Brown; Marquita Campbell; Anar 
Ladhani; John McGrail; Erika Navarro; Jennifer Schwartz; and Andrew 

[End of section] 


[1] Dodd-Frank Act § 1476. 

[2] GAO, Residential Appraisals: Opportunities to Enhance Oversight of 
an Evolving Industry, [hyperlink,] (Washington, D.C.: July 13, 

[3] See [hyperlink,] for more 
information about the data we obtained for this study. 

[4] The enterprises and federal banking regulators define market value 
as the most probable price that a property should bring in a 
competitive and open market under all conditions requisite to a fair 
sale, the buyer and seller each acting prudently and knowledgeably, 
and assuming the price is not affected by undue stimulus. 

[5] An AVM is a computerized model that estimates property values 
using public record data, such as tax records and information kept by 
county recorders, multiple listing services, and other real estate 

[6] The Appraisal Standards Board of the Appraisal Foundation 
develops, interprets, and amends USPAP. The Appraisal Foundation is a 
not-for-profit organization established by the appraisal profession in 

[7] A BPO is an estimate of the probable selling price of a particular 
property prepared by a real estate broker, agent, or sales person 
rather than by an appraiser. 

[8] AMCs perform a number of specific functions for lenders, including 
recruiting, selecting, and contracting with appraisers. 

[9] Dodd-Frank Act § 1472(a) (codified at 15 U.S.C. § 1639e(i)). 

[10] Dodd-Frank Act § 1475 (codified at 12 U.S.C. § 2603). 

[11] Although industry-wide data on lenders' use of AMCs over time are 
unavailable, appraisal industry participants told us that between 60 
and 80 percent of appraisals are currently ordered through AMCs. They 
provided varying estimates of AMC use prior to HVCC, ranging from 15 
percent to 50 percent of mortgage originations. 

[12] Dodd-Frank Act § 1473(f)(2) (codified at 12 U.S.C. § 3353(a)). 

[End of section] 

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