DODD-FRANKAND APPRAISALS

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Dodd-Frank and Appraisals:

The ComplianceStrategy BY J E N N I F E R M I L L E R

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A p p ra i s a l s

We’re buried in new federal and state regulations,

pending rules and misunderstandings, and everyone is

worn out from it. When it comes to compliant appraisal

operations, most lenders don’t know which way is up—

and no one can blame them. The dust has barely settled

on the new government-sponsored enterprise (GSE) appraisal submission

requirements, and the Dodd-Frank Wall Street Reform and Consumer

Protection Act rules are already staring us down. � We know the Consumer

Financial Protection Bureau (CFPB) is gearing up for enforcement (from state

regulators and from the Federal Financial Institutions Examination Council

[FFIEC] agencies), so it’s critical that lenders get policies in place now to protect

against the stiff penalties. � The good news is that compliance with the

appraisal requirements doesn’t have to be difficult. A common-sense appraisal

management strategy that follows industry best practices will get you in compli-

ance very quickly, and with far less pain than you’d feel from failing an exam.

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Here are the steps you should takefor Dodd-Frank compliance now:

� Find an appraisal compliancepartner or solution to help you identifythe weaknesses in your current process.There are too many regulations to go italone. Pick a company with appraisalexpertise and work with it. You don’thave to sign contracts or use its serv-ices. It’s nothing more than basic net-working, so just form a relationshipwith an appraisal management expertyou can ask for advice.

� Implement tools directly in yourworkflow to avoid noncompliance. a lamode knows from more than 27 years’experience helping the industry’slargest lenders and appraisal manage-ment companies that compliancemeasures won’t be followed unlessthey are tightly integrated into the workflow of youroperations. The “new way” has to become a part of yourprocess and not just a memo from the compliance offi-cer.

� Require an audit trail for every transaction for yourfuture protection. This is critical in case of an exam.Whether you’re managing appraisals internally or usingan appraisal management company (AMC), make sure

every transaction with your appraisalvendor is documented in an audit trail.If the audit trail catches an occasionalviolation from your staff, you’veshown that your institution’s policiesare aligned with compliance.

� Monitor the activities of yourthird-party vendor. First you must per-form proper due diligence on yourAMC. Monitor its policies and prac-tices, including its appraiser selectionprocess.

Enforcement is on its wayThe Dodd-Frank Act was enacted onJuly 21, 2010, and the CFPB is chargedwith overseeing the rules. We’re waitingon the final rules to figure out whichpieces of the act will be implemented aswritten and which will change.

To mitigate risk, in most cases, you should move for-ward with appraisal policy now instead of waiting on spe-cific guidance from the rules. There are a few exceptionsI’ll discuss, but the majority of the rules can be under-stood and easily adhered to now.

According to the CFPB’s semi-annual report(http://files.consumerfinance.gov/f/201207_cfpb_semi-annual_report.pdf), the agency expects to finalize most

A host of appraisal-related

requirements were included in the Dodd-Frank

Wall Street Reform and Consumer

Protection Act. Here’s the rundown

on what you need to know about them.

of the mortgage rules by Jan. 21, 2013 in accordancewith the statutory deadlines. I believe the CFPB will nothave the final rules defined for some aspects of the act,including items that impact appraisal, by the Jan. 21deadline. The CFPB may provide clarification at a laterdate, but when the act goes into effect as written, you’llneed to figure out what it means.

Enforcement is already under way. In it’s semi-annualreport, the CFPB noted, “Enforcement has endeavored tofocus its investigative resources on the violations of lawthat cause the greatest harm to consumers.” The agencyalso said, “The investigations currentlyunder way span the full breadth of thebureau’s enforcement jurisdiction.”

The CFPB is staffing up and alreadyreceiving a tremendous volume of con-sumer complaints. According to thereport, the CFPB had 889 employees asof June 30, up from just 214 a year ago,and the agency wanted to “continue thismomentum.” The CFPB received 55,300consumer complaints between July 21,2011, and June 30, 2012—the vast major-ity of which were related to mortgages.

The industry must assume the CFPB isgearing up for exams and enforcement,and know that appraisal will likely be anarea of focus. It’s critical to examine yourcurrent policies and procedures to makechanges where you can now.

The Dodd-Frank appraisal issuesDodd-Frank’s appraisal rules can be found in subtitle F ofTitle XIV of the act, titled “Appraisal Activities.” Subtitle F(hereafter, the “act”) makes a number of amendments tothe Financial Institutions Reform, Recovery, and Enforce-ment Act (FIRREA), Truth in Lending Act (TILA), RealEstate Settlement Procedures Act (RESPA) and EqualCredit Opportunity Act (ECOA) that affect appraisals.

Section 1471—property appraisal requirements This section of the act largely deals with what the

CFPB considers “higher-risk mortgages.” The act couldimpose a requirement that would necessitate a secondappraisal by a licensed or certified appraiser for loanssecured by a principal dwelling that meet the CFPB’s cri-teria for a higher-risk loan. A final ruling is coming (seehttp://files.consumerfinance.gov/f/201208_cfpb_hrm_proposed_rule.pdf), but the basic idea is to require a sec-ond appraisal on riskier loans and/or types of loanswhere fraud has been an issue in the past, such as withinvestment properties or flips.

In addition, the CFPB wants a copy sent to the bor-rower at least three days prior to closing. Because thiswas a requirement of the Home Valuation Code of Con-duct (HVCC), many lenders already comply. But realizethat the CFPB will be looking for proof.

You can easily integrate this practice with your cur-rent workflow now. Most appraisal management soft-ware platforms should have a function to send the reportto the borrower, and some lenders rely upon their

appraisal management companies to perform this func-tion. If your AMC sends a copy of the appraisal to theborrower, the lender is not off the hook. As with everyother aspect of this act, it’s up to the lender to ensurethat any vendor is complying—which means you need tohave proof on every transaction that the appraisal wasprovided at least three days prior to closing.

Section 1471 also adds a consumer notification thatan appraisal has been ordered for the sole use of thecreditor, and the notice should include language aboutreceiving a free copy of the resulting report. It would be

a good idea to bundle a notice about theborrower’s rights to a copy of theappraisal and include it in your disclo-sure package.

Part of a compliance strategy for thissection must also include the monitor-ing of your fee panel’s licensure status.If you’re using an AMC, you either haveto monitor this yourself or have thor-ough documentation on how each ofyour AMCs is monitoring licensure.

Fortunately, there is a central databasefor all appraisal licenses at www.asc.gov,and you are allowed to download theentire database to run a comparison.Again, vendor management software canautomate this task by scrubbing your feepanel against the Appraisal Subcommit-tee’s list of licensed appraisers daily.

At $2,000 per violation (see www.gpo.gov/fdsys/pkg/PLAW-111publ203/pdf/PLAW-111publ203.pdf), thepenalties in this section aren’t as drastic as in other sec-tions, but there’s no burden of proof for damages, either.

According to the act, “A creditor that willfully fails toobtain an appraisal as set forth above (i.e., either theoriginal appraisal or a second appraisal, where applica-ble) is liable to the applicant or borrower in the amountof $2,000. The liability under this new provision is inaddition to any other liability under TILA (i.e., civil lia-bility, administrative liability and criminal liability).

Section 1472—appraisal independence requirements This section establishes new appraisal independence

requirements (AIR). There are several requirementslisted, but most are common sense in a compliance strat-egy designed to prevent collusion, and most of thesewere also required by HVCC.

Of course, you can’t say or imply to an appraiser thatcurrent or future work depends on the amount at whichthe appraiser values a principal dwelling. You can’t tellan appraiser a minimum reported value of a consumer’sprincipal dwelling that is needed to approve the loan.You also cannot fail to compensate, or threaten to fail tocompensate, an appraiser because she/he does not valuethe dwelling at or above a certain amount. And as withHVCC, production loan staff (or mortgage brokers) can-not be involved in the appraiser selection process.

There has been a lot of talk in the industry about AIR,but most have made their peace with these requirementsand compliance has become second nature. If you aren’t

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The industry must assume theCFPB is gearing

up for exams andenforcement,

and know thatappraisal will

likely be an area of focus.

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yet in compliance, look around and adopt one of thestrategies your neighbor is using.

There are many solutions available, from outsourcingeverything to an AMC to employing the use of softwareto act as a firewall between the appraiser and your pro-duction loan staff.

Keep in mind that one of the most important aspectsof AIR, and one that is often overlooked, is that your pro-duction loan staff cannot select appraisers. If you’re stillallowing production to push appraisers to you, you needto make changes immediately.

One aspect of this section that is controversial is themandatory reporting requirement. All entities, includ-ing AMCs, lenders and appraisers, are required to reportperceived violations to their state boards. This means ifa reviewer or underwriter identifies something in anappraisal that is not, for instance, compliant with theUniform Standards of Professional Appraisal Practice(USPAP), your organization is required to report theappraiser.

Many in the industry are unclear on the reporting pro-cedure because state appraisal boards are typically notequipped to follow up on the complaints received. Inlight of the industry confusion, your compliance strategyshould include a full audit trail of your appraiser selec-tion process, including communications with yourappraiser. I always recommend automatic documenta-tion in a full audit trail anyway, but it’s even more neces-sary in light of the reporting requirement.

Vendor management software will automatically cre-ate audit trails for you, and it’s well worth looking intothese tools so you are covered in case of an exam.Remember, the audit trail is also prudent because it mayuncover violations that you can correct before an audit,and its existence is evidence of a corporate policydesigned to follow the law.

Finally, this is the section that mentions that creditorsand their agents are required to compensate fee apprais-ers “at a rate that is customary and reasonable forappraiser services performed in the market area” of theproperty being appraised. This is a tough requirement,and I know many organizations have struggled with thetask of defining customary and reasonable fees.

The act makes mention of studies, but there’s a lack ofrecently published data. I think appraisers are under-compensated and this provision was added as a protec-tion, but it’s not clearly defined and needs clarification.Meanwhile, you need to evaluate the law and have yourcompliance advisers determine and document howyou’re going to comply.

According to Michael Simmons, senior vice president ofbusiness development with AXIS Appraisal ManagementSolutions, San Rafael, California, there is a difficult strug-gle between basing appraiser compensation on the twocurrent perspectives: Presumption 1 (basically calculatedfrom historical AMC-driven fees) or Presumption 2 (whichexcludes AMC fees and relies on independent studies).

Simmons says, “At AXIS, we employ Presumption 2,which sets a higher bar for compensating appraisers byexcluding historical AMC fees. Given the ever-increas-ing demand for qual i ty and depth of data being

required from appraisers, we believe the industryshould and will be driven to move to Presumption 2and, ultimately, to a cost-plus model—which means the‘customary and reasonable’ fee would be based on Pre-sumption 2, and then the AMC would collect a manage-ment fee that covers all of the services that a manage-ment company employs.”

In light of all the uncertainty, it’s unwise to choose asolution or AMC solely on the basis of lowering cost.

“Underfunding the appraisal management processcreates more underwriting conditions, risk and expo-sure, but there is now inherent risk in underpayingappraisers to attract more borrowers,” cautions MarkBackonen, chief executive officer of Troy, Michigan–based Class Appraisal Inc., a national AMC.

He adds, “When you weigh the potential cost savingsagainst the risk and the penalties, it’s clear lendersshould err on the side of having a prudent complianceprocess in place.”

Whereas penalties in the previous section of theDodd-Frank Act were relatively mild, violations in thissection are severe and can add up quickly. Accordingto the act, violators are subject to a civil penalty of upto $10,000 per day for the first violation and up to$20,000 per day for subsequent violat ions. Thatdoesn’t include the civil penalties or the associatedpenalties for violations of TILA.

In my opinion, because the penalties are so severe andas the technology is readily and affordably available, it’sreckless not to institute these practices as part of yourcompliance strategy now. The guidelines make goodsense from a risk perspective anyway, so it’s unwise notto protect your institution when it’s easy to do so.

Section 1473—various amendmentsThis section has been largely undecided and will

undoubtedly be expanded upon through the rulemakingprocess.

Currently, this section of the act sets a $250,000 loanthreshold for necessitating an appraisal, and bans theuse of a broker price opinion (BPO) on any first-mort-gage loan on a principal dwelling. Most investor require-ments are far below that $250,000 mark, so it shouldn’tbe an issue with most institutions.

In addition, this section requires the Appraisal Sub-committee (the federal agency within the FFIEC chargedwith overseeing The Appraisal Foundation) to providean annual report. It also requires AMCs to register withtheir state appraisal boards, and requires the AppraisalSubcommittee to create a national registry of AMCs.This section also sets up an appraisal compliance hot-line, but as mentioned before, the regulations imple-menting this provision had not yet been adopted at thetime of this writing.

The state-level requirement to enact AMC legislationis an interesting one. In theory, it’s a good idea. How-ever, the act was fairly weak when it came to outliningthe minimum requirements the state should impose andsilent when it comes to maximum requirements.

For that reason, the state laws that have been passedare wildly inconsistent. There are states that require all

principals to get fingerprinted and have a backgroundcheck. There is a state that charges the AMC every timean appraiser is added or removed from a fee panel. Andthere is at least one state that has language directing theAMC to “ensure the appraiser’s competence.”

Joan Trice, founder and chief executive officer ofClearbox LLC, Salisbury, Maryland, a data repository forappraiser and AMC rosters, estimates that annual feeswill likely be approximately $350,000 to cover the cost ofregistration in each state. “It’s a crazy mess,” she says.

“There are 523 unique AMCs already registered in 23states. Many don’t appear to be legitimate businesses. Itwill be interesting to see if the statesstep up and properly monitor the activi-ties of the AMCs,” Trice says.

So until then, it needs to be part ofyour due diligence to keep up withthese state regulations and never dobusiness with an AMC that isn’t regis-tered. This will become easier once thatnational database is available.

Section 1474—Equal Credit Opportu-nity Act amendment

This section relates to the creditor’sobligation to provide copies of appraisalsand valuations to the loan applicant, evenin the case where the application is with-drawn or the loan is denied.

In general, you are required to pro-vide a copy of all written appraisals andvaluations that are developed in connection with anapplication for a loan to be secured by a first lien on adwelling. The copy is to be furnished upon completion,but in no event later than three days before loan closing.

Again, most institutions routinely provide theappraisal anyway. The key to compliance here is to incor-porate that step into the appraisal desk workflow. Ven-dor management software can handle this, or an AMCcan do it for you. But under either circumstance, demanda full audit trail to document your compliance. Get adate-and-time stamp on when the appraisal was sent tothe applicant and when the applicant opened the file.

This section also mandates a notification to an appli-cant of his or her right to receive the appraisal, but youshould be doing that automatically when the applicantapplies, so that you’re in compliance with section 1471as discussed earlier.

Note that this section specifically defines a valuation toalso include an automated valuation model (AVM), a BPOor other methodology or mechanism. This is controversial.

I’m not sure if lending institutions are routinely pro-viding AVMs to borrowers. But in reviewing the law, itappears the intent is that any valuation used to securethe loan must be provided to the borrower, and it seemsthis would also include desk and field reviews.

Section 1475—appraisal feesThis section suggests HUD-1 and HUD-1A disclosure

forms associated with appraisals handled by an AMCcontain two fields for the appraisal fee. One field wouldshow the fee paid directly to the appraiser, and a sepa-rate field would show the administration fee charged bythe AMC.

Interestingly, the latest sample forms released for com-ment in July do not contain the two separate fee fields,but the appraisal trade associations are pushing hard forthis consideration (see Richfield, Ohio–based OctoberResearch LLC’s Dodd-Frank Update at http://dodd

frankupdate.com/dfu/articlesdfu/com-menters -share-divergent-views-on-proposed-cfpb-55766.aspx).

Some states took the AMC provisionsin their respective state acts as anopportunity to require AMCs to publishtheir fee to the borrower and lender.Right now, there are many AMCs thathave to do this on a case-by-case basis,depending on the state. I think it willactually ease the burden if this justbecomes a standard rule.

Compliance may not be as difficult asyou thought I hope this practical review of Dodd-Frank’s appraisal requirements takessome of the stress off your shoulders. Ican’t overemphasize the importance of

working with—or at least networking with—an appraisalworkflow expert. An expert has to understand these regu-lations because he or she works with hundreds of lendersand AMCs, so building a relationship is a great way to giveyour institution a shortcut to full and easy compliance.

And remember, the CFPB isn’t the only focus. “Inaddition to the CFPB enforcement, there are several lay-ers of exposure for lenders. They have to navigateagency rules, state exams and their AMC’s state audits,”notes Class Appraisal’s Backonen. “Since the comingaudits are largely unknown in scope and complexity, it’simportant that lenders select vendor management part-ners with significant compliance expertise.”

As the January deadline approaches, we’ll see more pro-posed rules and opportunities for comment. I urge you to par-ticipate by watching proposed rules and adding your com-ments at www.consumerfinance.gov/notice-and-comment.You can rest assured others are commenting, so let your voicebe heard while the CFPB is finalizing these provisions. MIB

Jennifer Mil ler is president of Oklahoma City–based a la mode Inc. ’s

Mortgage Solutions Division. Her focus is Mercury NetworkTM, the

nation’s premier valuation vendor management platform, responsible

for 20 ,000 appra isa l de l iver ies a day. She can be reached at

jennifer.miller@alamode.com.

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In light of all the uncertainty,

it’s unwise tochoose a solution

or AMC solely on the basis of lowering cost.

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