With all the attention to the new appraisal independence requirements in Section 129E of the federal Truth in Lending Act (TILA) that became effective in April of 2011, it can be easy to forget that more Dodd-Frank-based appraisal regulations are coming. For example, Dodd-Frank’s Section 1471 amended TILA to add the new Section 129H.
Section 129H imposes so-called “super-appraisal” requirements as a condition to extending credit in certain higher-risk mortgage loans, and the interagency work group is currently drafting a rule to implement the requirements. Dodd-Frank sets a January 2013 deadline for the final rule to be published, and the rule will probably take effect some time in 2013. The progress of this rule should be on every residential lender’s radar screen.
Where might these super-appraisal requirements apply? They’ll apply to certain covered “higher-risk” residential mortgage loans made to consumers and defined, in part, by comparing the APR on the loan to the federally-maintained average prime offer rate for comparable transactions. For first-lien loans with original principal balances within Freddie Mac’s conforming limit, a higher-risk loan is one that carries an APR that is 1.5 or more percentage points above the prime offer rate. For first-lien loans with original principal balances above the conforming limit, the test is whether the APR is 2.5 or more percentage points above the prime offer rate; for subordinate-lien loans, the test is whether the APR is 3.5 or more percentage points above the prime offer rate. Higher-risk mortgages will exclude so-called “qualified mortgages” defined in the safe harbor provisions of Dodd-Frank § 1412, amending TILA § 129C, but a detailed discussion of qualified mortgages is outside of the scope of this article.
What will be required? Well, for starters an appraisal must be prepared by a licensed or certified appraiser in conformance with USPAP. So, this provision will more than likely abrogate the flexibility provided under the Interagency Appraisal and Evaluation Guidelines that permits banks to obtain less-formal “evaluations” in lieu of full-blown appraisals, including for residential loans under $250,000. The bank regulators do not require evaluations to be performed by licensed or certified appraisers, and evaluations typically are significantly cheaper to prepare or obtain than formal appraisals.
Also, the appraiser will have to physically visit the interior of the property. Those familiar with Fannie Mae’s exterior-only, so-called “drive-by”, appraisal report form know that those appraisals don’t require an interior inspection. Appraisals requiring interior inspections are more expensive. There are consumer-notification requirements and obligations to provide free copies of the appraisal as well as other issues outside the scope of this post.
The last key requirement arises, generally, where the seller in the underlying transaction has owned the property for less than 180 days and is selling the property for more than they paid for it. There, TILA § 129H will require covered lenders in covered transactions to obtain a second appraisal from a different certified or licensed appraiser. The scope of work on the second appraisal must include a specific analysis of the difference in sale price, changes in market conditions and any improvements. And, importantly, § 129H prohibits a covered lender from passing the cost for that second appraisal on to the borrower.
That second appraisal will no-doubt be more costly and require specialized expertise, potentially resulting in delays for transactions where it’s required. There may be additional obligations on the lender in reconciling the two appraisals. Current provisions of the Interagency Appraisal and Evaluation Guidelines and FHFA’s Appraisal Independence Requirements (AIR) require lenders, when obtaining a second appraisal, to document the file in some form or fashion to evidence that the lender chose the most credible value, not simply the highest. In fact, AIR prohibits ordering a second appraisal in certain situations, although there’s a carve-out where more than one appraisal is required by law (no doubt in recognition of TILA § 129H).
TILA § 129H may in some way represent an expanded attempt to reign in appraisal fraud inherent in so-called “property-flipping” schemes. Fannie Mae’s existing selling guide already includes warnings to appraisers and lenders to pay special attention to the record owner of a property prior to closing so as to help identify improper simultaneous or “double-closing” flipping schemes, which the FHFA has determined “result in a sale of recently acquired, distressed property for significant profit based on a misleading or fraudulent appraisal with an inflated property value.” (See Fannie Mae Selling Guide, § B4-1.1-01.)
One thing’s for sure. When the rules implementing TILA § 129H take effect next year (or in early 2014), they will result in increased appraisal-related costs and, in some cases, delays for lenders where transactions are subject to its reach.