Demos (with a slash over the e which I could not seem to replicate) is a research
institute based in New York City. Billed as a "network for ideas and action"
they publish, on a regular basis, tracts and commentaries on a widely divergent
series of topics - economic, political, and "other." Among its
more recent publications are Households at Risk - the Bankruptcy "Reform"
Bill and its Impact on American Families
; Making Voting Easier -
Election Day Registration in New York
; and Swing & Miss - The
Linkage Between Steroids in Baseball and the Rising Inequality in Our-Winner-Take-All
Well, simply because this article is about to quote them in great detail, and
there are think tanks and there are think tanks, and we are all as suspicious
as can be about everyone, and we often doubt institutional agendas, and, well,
just because! Anyway, if you want to check them out - particularly their
Board of Directors, which is usually a good indication of agendas and which,
in this case, is a pretty heterogeneous bunch of people - you can do so
Credentials established. Let's now get into one of their more recent
reports: Home Insecurity: How Widespread Appraisal Fraud Puts Homeowners
at Risk. This report, written by David Callahan, is, if true, a pretty
scary look at what may be a house of cards built by lenders, real estate agents,
and consumers, aided and abetted willingly or not by appraisers and state and
The Demos report, issued late last month, is pretty stunning. First of all,
its assessment of "Assets at Risk"
The report states that homeowners now spend a higher percentage of their
income on mortgages and other debt than ever before, resulting in a debt-to
income ratio which has risen over the last five years to record levels.
Under this growing financial pressure, homeowners have increasingly turned to
the equity in their homes to consolidate debt, pulling out a "record $458
billion" from equity between 2001 and 2004. While homeownership today
stands at a record 69 percent, "Americans actually own less of
their homes than they did thirty years ago." Equity, the report
continues "fell to 55 percent in 2004, down from 68 percent in the early
"Overall, the net effect of the surging real estate market...is that
the financial well-being of American households hinges...on the continued
strength of property values. And...many Americans have taken on mortgages
that exceed the true market value of their homes, thanks to appraisal fraud."
This type of fraud, simply stated, is commissioning, demanding, or falsifying
an appraisal that justifies a value that may or may not be an accurate indication
of that value.
The report makes a stunningly simple explanation of the reasons behind mortgage
fraud: that the financial incentives of those involved in the mortgage
loan process often work against the very idea of securing an honest
- Lenders or brokers are generally paid a commission based on the value
of the mortgage and thus their livelihood depends on ensuring that the loan
will close without any problems;
- The surge in refinancing has increased the incentives for dishonesty
- i.e. a homeowner who is refinancing to pay off other debt will need
the new loan to come in at a certain level in order to pay off that debt. If
the non-mortgage obligations cannot be reduced below the lender's required
debt to income level, the loan will not get past the underwriters. Thus it becomes
a circular problem; the lender's own rules contribute to the necessity
to hit a dollar figure with the appraisal.
- Those persons who originate loans are increasingly less likely to care
if their loans default. In the old days banks originated loans and kept and
serviced them until the debt was retired. Today most loans are quickly
sold into the secondary market where only Freddie, Fannie, FHA, or
the VA knows who will ultimately pay the price when a property that is foreclosed
turns out to be worth far less than the appraisal in the loan file said it was.
- Appraisers' livelihoods are dependent on a flow of work from lenders
and brokers. An appraiser who does not bring in the desired value on properties
may soon find him or herself losing clients and income.
- Consumers are also to blame because they often look only at the short
term. A prospective or current homeowner wants to buy the house or wants the
cash out and fails to think ahead to the day that he may want to sell or refinance
and find that he is "upside-down" with a mortgage that exceeds the
value of his home.
Author Callahan references the 2003 National Appraisal Survey conducted by
October Research which polled 500 appraisers in 44 states. 55% of the appraisers
reported that they had been pressured to overstate property values.
25 percent of appraisers reported that they had experienced such pressure in
at least half of the appraisals they were commissioned to perform. The report
also cites data collected from 2000 to 2003 by the Mortgage Asset Research Institute
(MARI) which indicated that incidents of appraisal fraud rose from 10 percent
of all mortgage fraud in 2000 to 38 percent in 2003. MARI also was quoted as
stating that the actual incidence of appraisal fraud was likely "higher
than the data indicated"
But does it matter if property values are inflated? With skyrocketing prices,
certainly real values will quickly catch up with anything an appraiser would
dare put in his report, right?
And if it does matter, what can be done about it. Surely state and federal
regulators must have an interest in what is happening in this sector of the
We will talk about what Demos has to say about this and other appraisal related
topics later this week.