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Chapter 26
APPRAISAL REVIEW
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n most fields of endeavour, the final product is subject to examination by
inspectors or controllers. The appraisal review procedure may be likened to a
quality control or auditing function. Usually, the appraisers in an office review the work of one another before submitting it to their staff managers or clients. In an appraisal review, the logic and procedures employed in an appraisal report are investigated and verified to ensure that the value estimate derived is a reliable indication that the client can use in his or her decision making.
Appraisals may also be reviewed by clients. Typically a formal review process is conducted in offices that receive a large volume of appraisal reports. Government entities such as regulatory agencies, Revenue Canada and other government revenue offices, agencies that exercise the power of expropriation, and agencies that insure mortgages perform appraisal reviews. Private lending organizations that employ review appraisers as staff members include credit unions and Caisses Populaires, chartered banks, trust companies, insurance companies, pension fund managers, investment trusts, and mortgage insurers.
Review appraisers serve the corporate and private sectors in several ways. They assist in making decisions pertaining to the buying, selling, and leasing of property as well as decisions involving properties managed as fixed assets. Often, reviewers are hired on a fee basis to assess the validity of an appraisal.
A review appraiser is an appraiser who examines the reports of other appraisers to determine whether their conclusions are consistent with the data reported and other generally known information.' The review appraiser interprets and critiques the methods and procedures applied in a valuation.
Because appraisal is both an art and a science, a value conclusion is the product of an appraiser's reasoning and judgement. To understand the appraiser's thought process and the rationale underlying the value conclusion, the appraisal must be carefully read. Differences arising from the use of nonstandardized reporting formats also require interpretation and verification.
PURPOSE OF APPRAISAL REVIEW
One of the primary functions of an appraisal review is to provide a test of reasonableness for the user of a report, who may have doubts or apprehensions about the data, analyses, and conclusions the report contains. The reasonableness of the assumptions and limiting conditions is also considered.
Appraisal reviews are performed as tests of appropriateness. The methodology and techniques employed in the appraisal are considered in terms of their appropriateness to the appraisal problem. A reviewer checks for consistency and mathematical accuracy throughout the report. Because appraisals are not standardized products, reviewers must determine whether the data have been analyzed in a logical fashion and whether the conclusions are consistent with the data presented.
Appraisal reviews are often conducted to enhance the client's confidence in an appraisal. The reviewer determines whether the quantity and quality of the data analyzed are suitable. The reviewer ascertains whether the appraiser has examined all relevant economic indicators, considered all elements of comparison, and applied all available techniques consistent with the appraisal problem.
Appraisal reviews play an important role in the risk management procedures of lending organizations. A reviewer may attempt to identify the trends referred to in an appraisal report or to assess the degree of risk involved in a business decision by performing sensitivity analyses.
Appraisal Review 607
n most fields of endeavour, the final product is subject to examination by
inspectors or controllers. The appraisal review procedure may be likened to a
quality control or auditing function. Usually, the appraisers in an office review the work of one another before submitting it to their staff managers or clients. In an appraisal review, the logic and procedures employed in an appraisal report are investigated and verified to ensure that the value estimate derived is a reliable indication that the client can use in his or her decision making.
Appraisals may also be reviewed by clients. Typically a formal review process is conducted in offices that receive a large volume of appraisal reports. Government entities such as regulatory agencies, Revenue Canada and other government revenue offices, agencies that exercise the power of expropriation, and agencies that insure mortgages perform appraisal reviews. Private lending organizations that employ review appraisers as staff members include credit unions and Caisses Populaires, chartered banks, trust companies, insurance companies, pension fund managers, investment trusts, and mortgage insurers.
Review appraisers serve the corporate and private sectors in several ways. They assist in making decisions pertaining to the buying, selling, and leasing of property as well as decisions involving properties managed as fixed assets. Often, reviewers are hired on a fee basis to assess the validity of an appraisal.
A review appraiser is an appraiser who examines the reports of other appraisers to determine whether their conclusions are consistent with the data reported and other generally known information.' The review appraiser interprets and critiques the methods and procedures applied in a valuation.
Because appraisal is both an art and a science, a value conclusion is the product of an appraiser's reasoning and judgement. To understand the appraiser's thought process and the rationale underlying the value conclusion, the appraisal must be carefully read. Differences arising from the use of nonstandardized reporting formats also require interpretation and verification.
PURPOSE OF APPRAISAL REVIEW
One of the primary functions of an appraisal review is to provide a test of reasonableness for the user of a report, who may have doubts or apprehensions about the data, analyses, and conclusions the report contains. The reasonableness of the assumptions and limiting conditions is also considered.
Appraisal reviews are performed as tests of appropriateness. The methodology and techniques employed in the appraisal are considered in terms of their appropriateness to the appraisal problem. A reviewer checks for consistency and mathematical accuracy throughout the report. Because appraisals are not standardized products, reviewers must determine whether the data have been analyzed in a logical fashion and whether the conclusions are consistent with the data presented.
Appraisal reviews are often conducted to enhance the client's confidence in an appraisal. The reviewer determines whether the quantity and quality of the data analyzed are suitable. The reviewer ascertains whether the appraiser has examined all relevant economic indicators, considered all elements of comparison, and applied all available techniques consistent with the appraisal problem.
Appraisal reviews play an important role in the risk management procedures of lending organizations. A reviewer may attempt to identify the trends referred to in an appraisal report or to assess the degree of risk involved in a business decision by performing sensitivity analyses.
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Appraisal reviews can raise appraisers' level of professionalism, ensuring a more uniform and higherquality product which may assist appraisers in career advancement. An appraisal review may be conducted as a compliance check to determine whether the appraiser has met the requirements of a client that is a lender, regulatory agency, or public agency. Appraisal reviews can help appraisers become accepted as qualified professionals and may sometimes be a part of the ongoing process by which a client's list of approved and recommended appraisers is maintained.
CLIENT REVIEW REQUIREMENTS
Appraisal review requirements vary depending on the client. The review requirements of lenders may be tailored to their specific policies and procedures, which include compliance with the requirements of federal agencies as well as statutory requirements relating to foreclosure. Mortgage insurers have unique appraisal requirements. Federal and quasifederal agencies that conduct appraisal reviews as a normal part of their audit procedures have their own specifications for appraisals. Provincial and local governmental agencies such as highway departments conduct reviews in conjunction with the acquisition of rights of way and have their own requirements for expropriation proceedings. Many corporations and private organizations such as relocation companies perform appraisal reviews in conjunction with the services they provide.
It may be necessary for an appraiser to brief the client on the different levels of appraisal reviews available and to recommend the level appropriate to the client's needs.
REVIEWING APPRAISALS
An appraisal review differs significantly from an appraisal report. The function of the review appraiser is not to appraise the subject property, but to analyze the contents of the appraisal report itself.
A review appraiser identifies and judges the reasoning and logic that underlies another appraiser's work, but does not substitute his or her own judgement for the judgement of that other appraiser. The reviewer's task is to analyze the total work product of the appraiser in an impartial and objective manner. Although reviews are performed for a variety of reasons, many are routine assignments. Appraisal reviews are regularly conducted for government agencies involved in takings for public projects and for financial entities contemplating the use of property as collateral for mortgage loans. Review assignments can have serious consequences, and reviews based on investigative work may have civil, or even criminal, implications.
Reviews of appraisals of distressed properties or properties taken back by financial institutions or regulatory agencies can result in lawsuits against the original appraiser. Reviewers cannot dismiss the possibility that their reviews may be used against the original appraiser in court proceedings.
In the past 60 years, real estate appraisal has evolved from an occupation filled with seasoned generalists into a highly technical discipline practised by computerliterate specialists. In the past, only the direct client reviewed appraisal reports and, since many clients were nonprofessionals, many appraisal reports were inadequately reviewed. More and more governmental and quasigovernmental agencies now require appraisal reviews, especially in the acquisition of rights of
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way and expropriation proceedings. Similarly, provincial and federal agencies that collect real estaterelated taxes have adopted the practice of using appraisal reviews. Corporations and private relocation firms have also realized their need for appraisal reviews in conjunction with the real estate services they render. Reviews are increasingly necessary because the complexity of the appraisal process has increased; the vocabulary of appraisal has become more technical and the methodology more sophisticated. Increased specialization and responsibility have resulted from the internationalization and globalization of capital markets in general, and investmentgrade real estate in particular. Regulators are needed to scrutinize appraisals and carry out other audit functions designed to protect the public interest. These developments have created a need for trained and qualified review appraisers, formal appraisal review procedures, and formal appraisal management policies.
APPRAISAL MANAGEMENT
Establishing a sound appraisal management policy makes good business sense for any financial institution or government agency. The proper valuation and evaluation of real estate used as loan collateral is essential in transactions involving real estate. A solid value basis is needed both to secure the loan or asset and to provide a reliable source of repayment. Any sound appraisal management policy must specify appraisal review procedures and practices.
A good appraisal management policy can help standardize the criteria used to evaluate property performance and measure risk. By creating a solid basis for decision making in regard to both associated risk and the quality of an investment portfolio, an appraisal management policy reflects an institution's commitment to operate in a safe and sound manner.
Because appraisal services play such an important role in loan and investment decisions, these services must meet the lending policies and investment guidelines of the institutions and agencies served. It is critical that the objectives of the appraiser match those of the client. Mutual understanding will tend to encourage the client to have confidence in the appraiser.
The development of an appraisal management policy begins with the review of existing policies on loans and investments. The policy established should be structured to provide the information needed to implement lending and investment policies. This policy must direct managers to work closely with appraisers to ensure that appraisal problems are properly defined and that appropriate appraisal data, techniques, and methods are employed to provide solutions to these problems.
An appraisal management policy should reflect regulatory obligations, mandate due diligence, ensure conformance to professional standards, generate current and meaningful valuations, and establish criteria for a thorough review process. In addition, the policy should provide guidelines on why and when to require appraisals and how to implement appraisals once they are initiated.
Developing an Appraisal Policy
The responsibility for developing, implementing, and maintaining a valuation
policy must be assigned to competent staff and committee members. This responsibility includes:
610 The Appraisal of Real Estate
•Development of a set of written policies and procedures to be communicated to all employees affected
•Maintenance of independent control over the actual appraisal process
•Approval of all appraisals utilized
•Maintenance of files documenting the auditing of all appraisals governed by the policy
•Assurance that all appraisals are prepared according to accepted standards of professional appraisal practice and in compliance with regulatory requirements
Among the issues that must be addressed in the formulation of an appraisal policy are definitions of value, the qualifications of staff members, selection of outside fee appraisers, appraisal practices, appraisal review procedures, specific appraisal guideline criteria, appraisal update requirements, and procedures to ensure quality control and compliance with standards. Specific considerations include:
•The type of appraisal reports the institution requires, i.e., form reports or narrative reports
•The standards of practice that appraisers must follow and the minimum requirements for content and documentation that appraisers must meet
•The types of value required in appraisal reports prepared for the institution
•The appraisers authorized to prepare appraisals on behalf of the institution, i.e., appraiser selection procedures
•The procedures for commissioning appraisals and the manager to whom this task will be delegated
•The type of information to be furnished to appraisers
•The managers who will monitor the process to ensure that the objectives of the assignment are understood, the work is submitted on time, and the product is of good quality
•Appraisal review policies and procedures
•The supervisor responsible for determining if the appraisals obtained are acceptable to the institution
•A policy on appraisals that may be too dated to be reliable
•The procedures to be followed when market conditions are rapidly changing, the plans or specifications of a projected property have been altered, or the appraised property no longer matches the original real estate interest.
Appraiser Guidelines
Management is responsible for the selection of both staff appraisers and contractual fee appraisers. Whether the work is performed internally or externally, appraisal expertise is needed to provide a reliable foundation for decision making. The criteria for selecting appraisers depend on the size of the institution or agency, the location, and the institution's current and anticipated involvement in real estate transactions. The appraisal function must remain independent of the other
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functions of the agency. In banks and other lending institutions, the appraisal function may be combined with but is preferably totally separate from lending and collection functions. The purpose of separating lending/collection functions from appraisal functions is to avoid conflict of interest by ensuring the institution has no interest, financial or otherwise, in the collateral appraised. The appraisers selected should demonstrate the competence required to perform appraisals according to accepted standards and regulations. They must be qualified to perform the assignments they are given, and their experience should be commensurate with the complexity of their assignments. The hiring guidelines established should apply to both staff appraisers and appraisers retained on a contractual fee basis. To evaluate an appraiser's professional qualifications, management must consider the appraiser's education, training, type of experience, and membership in professional appraisal organizations. A review of recent appraisal reports completed by the appraiser and a check of client references are usually necessary to complete the selection process. Hiring guidelines for appraisers must be tailored to the needs of the institution or agency and should be guided by the character of the targeted market, the type of property likely to be appraised, the complexity of the anticipated assignments, and the availability of appraisal services in the community. It is extremely important that staff appraisers, both review appraisers and field appraisers, meet training and experience qualifications. All valuations ultimately fall under the authority of the internal valuation unit, which may decide not to accept the value conclusions of independent appraisers contracted from outside the institution.
Appraisal Report Content
The volume of an institution's business, the size and complexity of the typical property, and the degree of client involvement in the typical property determine whether the institution should use a form or narrative report format. Regardless of the format in which the report is presented, each appraisal should 1) contain sufficient information to enable management to determine reasonable loan amounts, 2) support classification of the specified assets as collateral for real estate loans, and 3) help determine other terms significant to credit arrangements. The practices and procedures described below reflect accepted appraisal standards and are appropriate for most institutions:
•Appraisals should be prepared according to accepted standards and meet the reporting requirements set forth in the written appraisal guidelines of the institution and as established by the Appraisal Institute of Canada. All appraisers approved by the institution should be provided with a copy of the institutions guidelines.