Institutional landlords are making use of a loophole in financial regulations to get massive numbers of appraisals done quickly and cheaply. It’s a practice known as the “drive-by” appraisal that was banned by Congress after the housing crisis. But, that ban only applies to people applying for a traditional mortgage, and not companies conducting much bigger deals.
The “drive-by” appraisal is also called a “broker price opinion” or BPO. They are put together more quickly than a traditional appraisal at a fraction of the cost. According to the Wall Street Journal, they also make it easier for real estate institutions to put a value on homes that they already own for use as collateral in multi-million-dollar real estate deals (1).
Critics called it “risky behavior” because those appraisals may not accurately reflect the true value of the properties. They say BPOs can inflate property values and wind up leaving a debtholder with less collateral than they bargained for. Multiply this by tens of thousands of homes, and the loss could be substantial for investors.
BPOs Are Not New
BPOs have been around for a while, but they were wildly popular when the housing market collapsed. Lenders were faced with huge numbers of repossessed homes they needed to price so they’d order BPOs. Real estate agents who were essentially out of a job during the crisis were happy to provide the service. Those drive-bys would often verify if foreclosed homes were vacant, and place a value on homes that lenders could use for a mortgage modification.
But, when Congress began writing up rules to prevent bad banking practices, the BPO was banned as a valuation tool for mortgage applicants. And, with a new boom in their use today by big landlords, the SEC is investigating.
The Securities and Exchange Commission wants to know if companies have been pushing for a higher valuation than the properties are worth. The Wall Street Journal writes that institutional landlords like Blackstone have used BPOs to appraise collateral for the sale of more than $20 billion of bonds. They are also popular among individual house flippers and banks that are trying to decide whether to renegotiate a delinquent loan or to foreclose.
Last year, Fannie Mae agreed to guarantee about $1 billion of debt for Invitation Homes. It was based on BPOs for more than 7,000 homes used as collateral. Invitation Homes reportedly paid $95 for each BPO. That’s a $355 discount from the typical appraisal cost of about $450, and represents a $2.6 million savings for the company.
The SEC investigation involves Invitation Homes and three other big landlords. They said, all parties received subpoenas toward the end of last year to provide documents on assessments done by Green River Capital. They are looking for evidence that the companies may have requested adjustments to the valuations.
The Wall Street Journal wrote, Fannie Mae compared the BPO valuations done by Green River Capital with home price information in its own database. Those valuations were about 67% higher than the loan amount, but Fannie Mae said, “The market values of the properties may not be accurately reflected.”
One of the troubling aspects of the BPO, is a person doesn’t need a lot of training, or an appraiser’s license to put one together. As the drive-by name implies, they are meant to be a basic assessment of a home’s value, much like a realtor coming up with a listing price for a home. And, many are done without even seeing the home in person. The Journal reported, BPOs can be outsourced to places like India, where the people doing them use Google Earth and real estate websites to come up with a valuation.
The Wall Street Journal also reported, the quality of the BPO may have fallen because the price has dropped to as little as $25. The BPO has been priced at $50 or more in years past.
Donald Epley, who helped write national appraisal standards after the savings-and-loan collapse in the 1980s, said of the current situation, “BPOs are a creature of financial institutions that want deals to close fast, and so they don’t have to use an appraiser.” He told the Wall Street Journal, “You’re just dumbing down the standards to make the loan.”
In Defense of the BPO
Big landlords and investors argue that their use of the BPO makes sense when you are dealing with thousands of homes in one real estate deal. They say, if some of the homes are too high and some are too low, they will balance out as a group. They also claim the BPO is also practical for another reason, it’s often difficult to get inside homes that are occupied, especially if the home in on the foreclosure path.
Bond rating agencies say they also shave about 10% off BPO valuations. That would lessen the risk of a highly-overvalued lot of homes.
Dennis Cisterna, of Investability Solutions, told the Wall Street Journal, “BPOs have really taken hold as a way for lenders and investors to do evaluations en masse.” He said, “Using appraisals on every property usually isn’t financially or operationally feasible.”
But if you’re the one investing in those bonds or in public companies that own single family rentals, you might not like that response.
(1) Drive-By Appraisals: The Wall Street Journal