I recently sent a survey out to the Real Estate Agents in my database. This survey asked for the top 3 challenges they are facing in the current market. Of the responses 60% were concerned with low appraisal values and the number of REO properties in the market. As an appraiser, I would say about 1% of my reports in the past 3 years have included a distressed sale when the purpose was to find market value. The survey results concern me if other appraisers in the area are using REO properties as comparable sales when maybe they shouldn't be. The main effect that REO properties are having on the market is they are bringing the average and median sale prices down so agents and appraisers may need to take a time adjustment if the market is showing a declining trend. I think this is the biggest factor being missed when setting a list price or a counter offer.
I was recently reading the Appraisal Institute's opinion on the use of distressed sales as comparables. The article can be found here.
Some important points include:
"Appraisers cannot categorically discount foreclosures and short sales as potential comps in the sales comparison approach. However, due to differences between their conditions of sale and the conditions outlined in the market value definition they might not be usable as comps."
"If the foreclosed property was sold without a typical marketing program, or if it had become stigmatized as a foreclosure, it might need to be adjusted if used as a comp. Further, some foreclosed properties are in inferior condition, so adjustments for physical condition may be needed."
I did need to use an REO and a short sale in a waterfront property I recently appraised. I took adjustments for these properties based on market reaction to these sales since they do have a stigma in this area. The underwriter could not understand why I was taking adjustments and said they had never seen it before. Hopefully I was able to educate the underwriter in this case!
"When it is necessary to use a distressed sale as a comp, the appraiser must carefully analyze the current local market to determine if an adjustment for conditions of sale is needed. If no adjustment is warranted, the lack of adjustment should be explained."
"When the sales comparison approach is necessary, but there are virtually no current sales in the market area to analyze as comps, the appraiser must:
1. Expand the geographic area for comp search, then adjust for location as appropriate, and/or 2. Use less recent sales, then adjust for market conditions as appropriate."
1. Expand the geographic area for comp search, then adjust for location as appropriate, and/or
2. Use less recent sales, then adjust for market conditions as appropriate."
The points found in this guide note are ones that I follow with every report I complete. If you have concerns with a report that has been completed inappropriately ask for a review appraisal or question the lender about the use of comps. They may not do anything about it, but you won't know unless you ask.