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How do we value a house with a HUGE non-permitted addition?

February 5, 2019 By Ryan Lundquist 24 Comments

What do appraisers do when there is an enormous non-permitted addition? Imagine a 1,300 sq ft house with a 1,000 sq ft addition. What the? Let’s talk about this.

Here are some things to consider:

THE SHORT VERSION:

  • A lack of permits causes uncertainty in real estate
  • Buyers usually expect a price discount
  • Appraisers need to think through many issues when there aren’t permits
  • Many appraisers are likely to use the original footprint when choosing comps (instead of blindly lumping in the extra space)
  • This is a complicated issue, which is why the post is longer

THE LONGER VERSION:

1) Uncertainty: Whenever a home has a substantial non-permitted addition, it’s like infusing the property with uncertainty. What I mean is every time a person does a refinance or sells, the lack of permits might not be seen the same way by buyers, lenders, real estate agents, and appraisers. So just because it sold without any problems in the past doesn’t mean it will sell without hiccups in the future. In short, people who buy homes like this need to understand they’re signing up for a future of uncertain escrows.

2) Expectation of a discount: My sense is most buyers are going to expect a price discount when there aren’t permits. I know, thanks Captain Obvious. Granted, in some areas a lack of permits might be normal, but in other places or price ranges a lack of permits can be a huge deal. If a house was increased from 1,300 sq ft to 2,300 sq ft though without permits, that’s a 77% change in size. I’d say that’s no small matter for marketability, so buyers aren’t likely to be okay with paying full price. On top of this, some lenders might not want to touch the property either. Anyway, I’d expect to see buyers wanting a discount, but technically I’m open to seeing otherwise because my job is to be objective rather than impose a rule that says, “Buyers will always pay less in this situation.”

3) Nuts and bolts: Appraisers have to ask whether an addition is legal based on zoning. If it’s flat-out illegal, the appraiser isn’t going to be recognizing value (or shouldn’t be). Keep in mind sometimes lenders instruct appraisers not to show value for non-permitted space. At the same time many lenders ask appraisers to simply support the value if the appraiser is assigning value to non-permitted features. In other words, lenders might say, “We’re cool if you give value to this, but support the value with comps or data.” I wrote more about some of the nuts and bolts of the problem of non-permitted additions here.

4) Assuming it’s no big deal: An appraiser could assume the market would pay the same amount for a 2,300 sq ft house compared to a 1,300 sq ft house with a 1,000 sq ft addition, but that’s a gigantic assumption. In my mind it would be a huge liability for an appraiser to blindly assume the market would have no problem and just appraise it like this was no big deal. There is simply too much uncertainty, so appraisers aren’t likely to walk out on a limb of liability like this without compelling data. In many cases buyers will ignore smaller-ticket items that aren’t permitted, but a 1,000 sq ft addition is a massive issue that cannot be ignored.

5) A starting place: In an ideal world it would be best to find comps that also have large non-permitted additions. That would be incredible, but there’s a fat chance of that happening. So an appraiser has to decide which course to take. Should the appraiser choose 1,300 sq ft comps or 2,300 sq ft comps? There isn’t just one answer here, so I’ll let my colleagues speak to what they would do, but I would personally be extremely hesitant to use 2,300 sq ft homes unless there was a really good reason to do so. When an addition is so large like this, there are too many unknown factors about the quality of work and whether things were done right, so I’d more likely use 1,300 sq ft comps and then treat the non-permitted area separately. In other words, I’d get a really clear sense of what the house would be worth at 1,300 sq ft and then figure out the value of the addition and adjust for that in my report if needed. Yet I would be asking what 2,300 sq ft homes are selling for too, and I would probably view that price level as the very top of what a property like this could be worth.

6) Previous sales: One thing I would look for is if this property sold on the open market in the past. If it sold more recently a few times at 2,300 sq ft and the market seemed to recognize this space as square footage (despite a lack of permits), that might be data for me to consider. In that case I might be more tempted to choose 2,300 sq ft comps while making some very heavy disclaimers about there being no permits. But if I only have one previous sale from 2005 when lending standards were loose and lots of properties sold at inflated levels, I’d probably give very little or no weight to that prior sale. The truth is we might look up previous sales and see the opposite too. Maybe a property is huge on paper, but that doesn’t mean buyers paid a huge price. Thus we might see proof in previous sales that buyers didn’t consider this house on the same level as other 2,300 sq ft homes. Here’s the thing though. No matter how the market responded in the past, it doesn’t mean the market would look at the property the same today. Moreover, what if fraud or incompetence was involved in the prior sales? Thus prior sales can be valuable, but at the end of the day I have to still make a judgment call about today.

7) Multiple offers: If this property was listed on the open market and there were ten offers when buyers were informed about a lack of permits, that might mean something. Offers aren’t sales, but it’s still data to consider. Yet if a property has been really attractive to buyers but it keeps falling out of escrow because of a substantial non-permitted addition, that’s also telling. So just because something is appealing and getting offers doesn’t necessarily mean value is there. If buyers are struggling to close, that’s probably more telling than initial offers, right?

8) It’s a puzzle: Properties like this are like a puzzle. I have to look at many factors and assemble the pieces together. So I’ll give strong weight to 1,300 sq ft comps, I’ll maybe use some 2,300 sq ft comps and adjust down if necessary, and I’ll do my best to find some other comps with permit issues. Additionally, if I get a sense of what it would cost to permit the area, that’s at least worth considering and it might help me come up with some sort of adjustment down. My knee-jerk reaction is to think buyers at the least would deduct the cost to get it permitted (and realistically probably more). Lastly, I’d interview lots of agents and talk with appraiser colleagues too. This would help me sharpen my focus, give ideas for how to approach the property, or maybe even shed light on comps.

It’s not the appraiser’s fault: I know it’s frustrating to not give a quick solution for valuing a property like this, but there isn’t one. Let’s remember the uncertainty in valuing only exists because someone didn’t get permits.

I hope this was interesting or helpful.

BLOG BASH: My blog turns ten this month and I thought it would be fun to get some people together. I reserved a private room at Yolo Brewing Company from 3-7pm on March 2nd, and I’d be honored if you would show up. My wife and I will buy the first 100 beers and I’ll be doing some woodworking giveaways too. This is a laid-back event. No pressure at all. It’s okay if we’ve never met before too. You can RSVP on Facebook or just let me know by email.

Questions: What would you do in this situation? 1,300 sq ft comps or 2,300 sq ft comps? Anything to add?

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Filed Under: Appraisal Stuff Tagged With: 1000 sq ft addition, appraiser methodology, choosing comps, cost of permits, House Appraiser in Sacramento, no permits, non-permitted addition, puzzle approach to value, Sacramento Home Appraiser, what appraisers consider

At least read this part of the appraisal

January 15, 2019 By Ryan Lundquist 15 Comments

I know, nobody actually reads appraisal reports. Well, except for one thing – the value. But let’s talk about a critical place to look in an appraisal that can make all the difference. I have a story to share too about why this even matters.

BONUS: Check out the new new sales volume graphs below.

Look for these boxes: The bottom of page two in the appraisal has a few important boxes the appraiser can check, and these boxes help show if the value is “as is” or if there are required repairs, inspections, or other conditions. My advice? Be sure to look at these boxes carefully as well as any commentary listed in the space below (or the addendum if it says “See Addendum”).

If the value is “as is”, the appraiser is saying the property is worth that amount without any required repairs or further inspections needed.

If a “subject to” box is checked that likely means the value has already taken into consideration certain repairs or that the property will pass a future inspection (maybe a pest inspection, foundation inspection, two-year roof certification, etc…). So if an owner does the repairs listed, it doesn’t increase the value because the value was already based on the repairs being made.

In short, if you see a box checked besides “as is”, that’s a clue there is more to understand about the value.

An example of why this matters: A real estate agent uploaded an appraisal I did into MLS. This appraisal was completed for a lawyer and the value was not “as is”. In fact, this property had extensive damage, but the attorney asked me to value the property as if it was in average condition. This was spelled out blatantly in my report by using the boxes above (and in other places).

The problem here is the selling agent may not have realized the appraisal was not “as is” because the listing said something like, “Appraised at $670,000 in August 2018.” Yet the property was listed for $100,000 less because it was being sold “as is.” So the question becomes, could this be a liability for the agent? What if an out-of-town buyer bought based on thinking he/she was getting a discount because of the attached appraisal? Also, does this expose the appraiser to liability or reputation damage if people are reading the report and not understanding the value isn’t “as is”? I’m not a lawyer, but something doesn’t quite smell right here.

I’m not trying to make a big deal out of this, but sometimes details matter, so I caution real estate friends to look closely at the appraisal to understand the value. By the way, the agent was cool about removing the appraisal when I reached out about this.

The Big Point: Please read the bottom of page two to understand if the value is “as is” or if there are repairs built into the value. That can make all the difference.

I hope this was interesting or helpful.

SALES VOLUME SLUMPING: On a different note, here are some graphs I made yesterday to tell the story of sales volume slumping 11% in the Sacramento Region. I included a graph from 2005 also in case you’re wondering what volume did when the housing market imploded.

Questions: Any stories to share? Do you look at the boxes I mentioned above? When is it okay and not okay to upload appraisals in MLS?

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Filed Under: Appraisal Stuff Tagged With: as improved value, as is condition, as is value, Home Appraiser, House Appraisal, hypothetical condition, reading appraisal reports, reading appraisals, Real Estate Appraisal, Sacramento Market Trends, sacramento regional appraisal blog, sales volume, sales volume slumping, subject to repairs, subject to repairs in appraisal

Get rid of appraisers while nobody’s looking

November 26, 2018 By Ryan Lundquist 61 Comments

Did you hear the news? There’s a proposal from the FDIC, Federal Reserve, and others to not require appraisals for some mortgages under $400,000. This is a big deal and I have some thoughts. Actually, Ken Harney in the Chicago Tribune penned a fantastic piece about this today (I was quoted too).

Dude, this will save us money: The idea is to do away with traditional appraisals so consumers can save money and the loan process can speed up. Here’s the thing though. Regarding cost, the appraisal is one of the least expensive elements in a transaction. Of course to be fair the Borrower might pay a much higher fee for the appraisal because of what Appraisal Management Companies (AMCs) charge the consumer. Regarding turn-times, if an appraisal was ordered right away that would speed things up. It also doesn’t help if an AMC offers an absurdly low fee and shops around for an appraiser willing to work for that amount.

A 60% change in a slowing market: It’s troubling to hear a proposal to increase the appraisal threshold from $250,000 to $400,000. This 60% change hurts appraisers, but let’s be real about who it is helping. This is a ploy for banks and big corporations to make money by controlling the valuation process. This rule of course doesn’t necessarily mean appraisals won’t be required in all situations, but the danger is it paves the way. More than anything though this looks like a move in the agenda to usher in an era of “evaluations” (see below).

Systems of checks and balances: Consumers are certainly not being protected here. Why are we diminishing the role of the appraiser, one of the systems of checks and balances for our financial markets? What could possibly go wrong? This seems like very convenient timing for banks too because it helps position them to operate with looser standards as the market is softening.

The people behind the rules: We have nearly 95,000 appraiser credentials across the country, so changing the rules can put lots of people out of business.

Evaluations instead of appraisals: There’s been a big push to introduce “evaluations” in lieu of appraisals. As Ken Harney writes, “Instead of a formal appraisal, these homes would receive an “evaluation” by individuals who have no appraisal licenses or certification and would not be subject to current state regulatory oversight requirements that govern appraisers. The evaluators could be an “independent bank employee” or unnamed “third part(ies).” They would, however, have to be “competent” and possess “knowledge of the market, location and type of real property being valued.”” I’m guessing these “evaluators” will be real estate agents who do BPOs, employees at banks and data firms, and probably some appraisers who need the work at $75-$100 a pop.

Hybrid appraisals: Speaking of changing the appraisal process, it’s worth mentioning there is a hybrid evaluation product where someone else does the inspection part while the appraiser does the value part. I’m not certain if all evaluations would work this way, but here’s the gist. An individual would measure the property, take photos, make notes, and then send everything to the appraiser to do the value part. I really don’t like this idea because it treats value like it’s only crunching numbers at a desk instead of seeing the fuller picture of a property. I want to see the home, walk the parcel, smell the property, observe the street, understand the layout, etc…. instead of relying on someone else’s photos and notes – especially if that person is inexperienced.

But less appraisers is good news: I realize some might be excited to have less appraisers. I get it. But here’s some honest questions. If you work in real estate or you’re purchasing or refinancing a home, what’s going to happen when less experience is infused into the valuation space? Do you think that’s going to help protect consumers? If you’re frustrated now, what are you going to be feeling in the future? Does it bother you the banks are changing the rules to their benefit?

ACTION STEP: If it’s within your power to say something, please speak up right away. Maybe ask your local and state associations to make a statement and put pressure on the FDIC, Federal Reserve, and Trump administration. Thank you for your consideration.

SIGN THE PETITION: There is now a petition, so please sign here to make your voice heard.

I hope that was interesting or helpful.

Questions: What do think of this? Is this a good move? What are any positives and negatives you see? I’d love to hear your take.

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Filed Under: Appraisal Stuff Tagged With: 95K appraisers in United States, AMC, appraisal threshhold, big banks, e minimis appraisal threshold, Fannie Mae, FDIC, Federal Reserve, Freddie Mac, Home Appraiser, House Appraiser, systems of checks and balances, Trump Administration

When there’s no other manufactured homes in the neighborhood

October 23, 2018 By Ryan Lundquist 19 Comments

What do you do if you’re trying to value a manufactured home and there aren’t any comps in the market? I’ve been asked this a few times lately, so I wanted to pitch in some thoughts.

PUZZLE APPROACH: There isn’t one easy way to approach this, so when appraising something challenging I tend to look at a property like a puzzle where my goal is to find clues into value by considering a number of factors.

THINGS TO CONSIDER:

1) Older sales: There might not be any recent sales over the past 3-6 months, but what about older sales? There’s nothing wrong with looking at sales over the past few years and then figuring out how much the market has changed since those properties sold. This is exactly what I did when appraising a manufactured home in Carmichael recently. There were no recent sales and the most relevent one I could find was from 2016. I used that sale and simply adjusted for the market increasing in value over time.

2) Competitive markets: If sales are sparse in the neighborhood or city, why not look to competitive markets? When appraising in Carmichael I looked to Fair Oaks, Orangevale, and Citrus Heights. Of course I didn’t blindly choose sales. No, I had to be thoughtful about comp selection by making sure the other areas really were selling at a similar level. After all, there are portions of the other locations that could easily sell for more or less than portions of Carmichael.

Beyond one mile? Remember, it’s okay to use “comps” outside of a one-mile radius, but it’s suspect to cherry-pick higher sales further away when there are better (and lower) ones nearby. Here’s a good saying. It’s not how far you can go for comps, but where you should go.

3) If it was stick built: In my experience manufactured homes usually sell for less than stick-built homes. Duh, thanks Captain Obvious. But for the sake of being objective I’m leery about saying stuff like, “It’s going to sell for less than a stick-built home every time”. Anyway, my point is I can ask what the subject might sell for if it was a stick-built home in the neighborhood. Then at least I have a figure in mind as to what the highest possible price might be for the subject.

4) Subject sale: Has the subject sold in the past? If it was a reasonable sale at the time, it might give clues into value. What other locations were competitive at the time? Did it seem to sell toward the higher or lower end of the competitive market? Did it sell for more or less than other stick built homes?

5) Manufactured vs stick built: What’s the price difference between manufactured and stick built homes? That’s a good question. It’s not easy to answer if we don’t have sales in the market, so this is where we might look to a nearby market with more manufactured homes (not ones found in mobile home parks). When comparing manufactured vs stick-built homes, what sort of percentage price difference do we see? I’m not saying we should just take a percentage like this and apply it to stick-built “comps” in the subject neighborhood, but there could be some data here we might end up using. Remember, this is a piece of the puzzle or clue into value rather than the entire solution to value.

6) Ask for advice on finding sales in MLS: One of the challenges with manufactured homes is knowing how to find them in MLS. I suggest starting a map search as I show below. You might also do a single family home search and type in “manufactured” in the property description to see if anything comes up. Ultimately it might be worth it to ask a few colleagues how they find stuff in MLS.

7) Bottom & Top: Sometimes when dealing with a challenging property we have to ask ourselves where the top and bottom of the price market is in the neighborhood. At the least this gives us some context for where the value of the subject property might fit. In Carmichael I looked to the market and saw the lowest sales were closer to $300,000 and the highest competitive sales were just above $400,000. I realize this is a huge range, but at the least this gives me something to work with. Also, if my value is coming in below the bottom of a reasonable range, that’s a prod for me to keep digging for better comps and data (unless there’s a reason why the value should be lower).

8) Land value: Let’s not forget about land value. It’s worth asking what the site would sell for if it was vacant. This isn’t the main approach to value, but it’s a piece of the puzzle. The problem is if I’m relying heavily on one manufactured home comp in the market, but land value alone is more than that comp sold for, then maybe that one “comp” sold for too little.

CLOSING THOUGHTS: It really is like a puzzle when valuing something without the benefit of recent similar sales. My advice? Try to piece together many details like the ones above to help collectively paint a picture of value.

I hope that was helpful.

Photo credit: Thank you Realtor Sandy Muzinich for letting me use photos.

NEW VIDEO MARKET UPDATE: A couple of days ago I made a video to talk through the latest stats. It’s 10+ minutes and I talk through prices, inventory and sales volume. Enjoy if you wish.

Questions: What point stands out to you the most? Anything else to add? I’d love to hear your take.

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Filed Under: Appraisal Stuff, Resources Tagged With: bottom of the market, Carmichael, choosing comps, comp selection, Fair Oaks, Greater Sacramento appraisal blog, how appraisers choose comps, Manufactured Home, MLS, no comps, Orangevale, questions to ask, stick-built home, top of the market

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