FDIC Appraiser Suits May Help MBS Investors' Case
For now, regulators are letting banks hold fees steady. But in a shaky housing market, the banks are demanding more research from appraisers, who complain of "scope creep."
If the audience's response during a special session on mortgage credit at the National Association of Realtors' midyear legislative meetings is any indication, appraisals are still a big issue for front-line realty agents.
Some consumers and sellers may be disappointed with the appraised value of a property, but professional appraisers are just fulfilling their ethical obligation to the community.
Two federal lawsuits against appraisal management companies could become weapons for mortgage-backed securities investors seeking to make lenders buy back soured loans.
The Federal Deposit Insurance Corp., in its position as receiver for the failed thrift company Washington Mutual Inc., has charged that eAppraiseIT, a subsidiary of CoreLogic Inc., and LSI Appraisal, a subsidiary of Lender Processing Services Inc., performed sloppy appraisals that led to losses of at least several hundred million dollars at Wamu.
In lawsuits filed in early May, the agency claimed that more than 75% of appraisals performed by the two AMCs contained multiple violations of industry standards.
CoreLogic and LPS have countered that there is no basis for such claims. But no matter how the FDIC cases turn out, experts contend the lawsuits could provide a road map for MBS investors involved in or considering mortgage put-back cases. Establishing a pattern of defective appraisals, they said, can be an effective strategy for lawyers who have been stymied in obtaining loan files.
"Each time the government steps in like this they are going to be providing evidence that can be used by private litigants to bolster their case," said Isaac Gradman, an attorney in California and managing member of IMG Enterprises LLC, an MBS consulting firm.
Locating faulty appraisals can be used as a wedge to get trustees to release loan files, Gradman said. Much of the recent MBS put-back litigation has focused on mortgage servicing violations, which are more tenuous claims for put-back cases than ones involving mortgage origination, he said.
With the FDIC cases, "it is much more direct," Gradman said, "so it is more apples to apples."
Some law firms are already using appraisals as the basis for mortgage put-back claims, said one lawyer, who declined to be identified because he is directly involved in several cases.
He said that in some cases law firms are actually using services sold by CoreLogic, such as automated valuation models, to go after banks for securitizing loans with inflated appraisals.
Most of the appraisals cited in the FDIC suits involved jumbo loans that stayed on Wamu's balance sheet. An example from the suit against LPS is a property appraised in September 2007 at $2.3 million, which resulted in Wamu's approving a $1.84 million loan. According to the lawsuit, the appraiser reported the prior sale of the property 25 months earlier for $732,000 and noted $250,000 in upgrades, but did not explain how the property increased by more than $1.5 million in value that quickly in a market that the appraiser said was "stabilizing."
The appraiser also failed to address whether the 6,000-square-foot home was overbuilt for a neighborhood in which the surrounding houses ranged from 2,500 to 3,500 square feet, the FDIC claimed. Ultimately, the borrower defaulted on the loan and Wamu charged off more than $1 million.
In the lawsuit against CoreLogic similar trends emerge. For instance, the FDIC sites a Florida condominium that was appraised by eAppraiseIT in 2006 at $3.2 million that resulted in Wamu approving a $2.6 million loan.
However, according to the FDIC, the appraiser failed to disclose that the same condominium had been sold the day before for $1.98 million and that it had been sold two years earlier for $1.6 million — half of the appraised value.
The borrower later defaulted, leading to roughly $1.2 million of losses for Wamu.
CoreLogic claims the FDIC lawsuit is severely flawed.
"Based on the analysis to date, the company believes that for more than 85% of the loans cited in the FDIC lawsuit on which eAppraiseIT provided services to Wamu, eAppraiseIT's services consisted of reviews of pre-existing, third-party appraisals provided to it by Wamu, with the vast majority being desk reviews," the company stated in a filing with the Securities and Exchange Commission last month. "Under eAppraiseIT's agreement with Wamu, a desk review does not require any interior or exterior inspection by the reviewer."
LPS is taking a similar position. "For more than 75% of the 220 appraisals identified by the FDIC, LSI was contracted only to provide reviews of appraisals, not to conduct the initial, full appraisals," LPS spokesman Mitch Cohen said in a prepared statement.
"For these properties, the full appraisals were provided by other entities, unrelated to LSI," he said. "For all appraisals subject to this complaint, LPS believes there is no basis for a claim that LSI engaged in 'gross negligence' or breach of contract related to these appraisal services."
Francois Gregoire, who runs the appraisal firm Gregoire & Gregoire, said the numbers cited in the FDIC lawsuits do not surprise him. Gregoire is doing forensic appraisals for disciplinary reviews against appraisers and class actions by borrowers.
He has found that many of the eAppraiseIT appraisers have been disciplined by the Florida Real Estate Appraisal Board and several have since lost their licenses. "It is indicative of the quality of the appraisers these appraisal management companies were selecting," he said.
"I don't think they can claim that they have the cream of the crop."