Graphic Summaries Quizzes - chabot-classes.wdfiles.comchabot-classes.wdfiles.com/local--files/financing-class/Lesson_9.pdf · Financing Residential Real Estate Lesson 9: Qualifying

Printable Lesson Materials

13218 NE 20th Street Bellevue, WA 98005 425-747-7272 800-221-9347 www.rockwellinstitute.com

Print these materials as a study guide

This portion of your printable materials consists of dozens of

frames that summarize the content in this lesson. The frames are

arranged on the page to make it easy for you to study the material

and add your own notes from your textbook or the online course.

Graphic Summaries

Many students learn best from sets of questions, and this multiple choice quiz allows you to focus your review of the material to important topics.

Quizzes

These printable materials allow you to study away from your computer, which many students find beneficial. These materials consist of two parts: graphic summaries of the content and a multiple choice quiz.

© 2009 Rockwell Institute

Financing Residential Real Estate

Lesson 9:

Qualifying the Property

Introduction

In this lesson we will cover:

la lender’s perception of value,

lappraisal standards,

lthe appraisal process,

lappraisal methods, and

lhow to deal with low appraisals.

Lender’s Perception of Value

In addition to qualifying the buyer, underwriter must qualify the property being purchased.

�Is the property worth enough to serveas collateral for the loan?


Evaluation of property for underwriting purposes is based on an appraisal.

lAppraiser analyzes property and issues objective estimate of its market value.

Appraisal


Widely accepted definition of market value:

“The most probable price which a property should bring in a competitive and open market under all conditions requisite to a fair sale, the buyer and seller each acting prudently and knowledgeably, and assuming the price is not affected by undue stimulus.”

Market value


Lender uses property’s appraised value to determine how much money to loan with the property as security.

lLoan-to-value ratio expresses relationship between loan amount and property’s value.

Appraised value and loan-to-value ratio


LTV affects:

lRisk of default

LTV and risk


LTV affects:

lRisk of default�Lower LTV = larger downpayment�Borrower with large investment less likely

to default.

LTV and risk


LTV affects:


to default.

lRisk of loss in case foreclosure required

LTV and risk


LTV affects:


to default.

lRisk of loss in case foreclosure required�Sale proceeds more likely to cover debt.

LTV and risk


LTV affects:


to default.

lRisk of loss in case foreclosure required�Sale proceeds more likely to cover debt.

Lower LTV = Lower Risk

LTV and risk


Lenders tend to charge higher interest rates and loan fees on high-LTV loans.

�Offsets additional risk for lender.

LTV and cost of loan


Lenders use LTVs to set maximum loan amounts.

�Maximum LTV rules applied depend on type of loan.

Maximum loan amount


Maximum loan amount for transaction based on:

¡sales price, or

¡appraised value,

¡whichever is less.

Maximum loan amount

Appraisal Standards

Accurate appraisal is an essential element of loan underwriting.

lIf property overvalued:

�loan amount larger than it should be, and

�lender’s risk of loss is greater.

Appraisal Standards

In 1989, after S&L crisis, Congress passed Financial Institutions Reform, Recovery, and Enforcement Act.

�Based on FIRREA requirements, states passed appraiser licensing and certification legislation.

FIRREA

FIRREA

Appraisals used in “federally related” loan transactions must be:

�prepared by state-licensed or state-certified appraisers

�in accordance with Uniform Standards of Professional Appraisal Practice

Rules for federally related loans

FIRREA

Federally related loan is one made by bank or savings and loan association that is regulated or insured by federal government.


FIRREA


�Exemption for loans less than $250,000.


FIRREA


�Exemption for loans less than $250,000.

lSome states have made licensing and certification mandatory for all appraisers.


Appraisal Standards

In spite of FIRREA reforms, inflated appraisals appear to have played significant role in creating mortgage crisis.

Mortgage crisis

Appraisal Standards

In spite of FIRREA reforms, inflated appraisals appear to have played significant role in creating mortgage crisis.

New laws and regulations intended to:

limprove accuracy of appraisals, and

lmake appraisers more independent, less influenced by lenders and brokers.

Mortgage crisis

The Appraisal Process

Appraisal process generally involves these steps:

1. Define the problem.

2. Determine scope of work.

3. Collect and verify data.

4. Analyze data.

5. Determine site value.

6. Apply appropriate appraisal methods.

7. Reconcile results.

8. Issue report.


In this step, appraiser identifies property to be appraised (subject property).

Appraiser also:

¡determines purpose of appraisal, and

¡specifies “as of” date.

Define the problem


Scope of work includes:

¡ information needed

¡ type of analysis required

¡ tasks involved

Determine scope of work


Data required depends on what type of property is being appraised.

Two general categories of data:

çGeneral data

çSpecific data

Collect and verify data


General data – information about factors outside subject property that affect property’s value.

May include:

çregion’s economy, and

çneighborhood information.



Specific data – information about subject property.

May include:

çsite,

çhouse, and

çother site improvements.



Analyzing the data means judging the relevance of each piece of data collected.

Analyze data


Site valuation: estimating value of subject property excluding value of any improvements.

Vacant land:

Site value = Property value

Improved property:

Site value+ Improvement value

Property value

Determine site value


An appraiser may apply up to three different appraisal methods.

�Each method provides a separatevalue indicator.

Apply appraisal methods


In reconciliation, appraiser weighs value indicators and decides on final estimate of property’s market value.

Reconcile results


Last step is to prepare appraisal report, which presents value estimate and summarizes supporting data.

Issue appraisal report


As a general rule, appraisers gather data about a property through in-person inspection.

Property inspection



But sometimes lender considers drive-by appraisaladequate.

lAppraiser pays a brief visit to property after gathering info from other sources.

Property inspection



But sometimes lender considers drive-by appraisaladequate.

lAppraiser pays a brief visit to property after gathering info from other sources.

lDrive-by appraisals less common since mortgage crisis.

Property inspection

Summary

Value, Standards, and Appraisal ProcessÄMarket valueÄLoan-to-value ratio (LTV)ÄMaximum loan amountÄFIRREAÄFederally related loan transactionÄUSPAPÄScope of workÄGeneral and specific dataÄSite valuationÄDrive-by appraisal

Appraisal Methods

Three ways to appraise real estate:

�sales comparison method,

�replacement cost method, and

�income method.

Appraisal Methods

Sales comparison method uses sales prices of comparables to estimate market value of subject property.

¡Preferred by appraisers.

Sales comparison method

Sales Comparison Method

Competitive market analysis (CMA) is informal version of sales comparison method of appraisal.

¡Used by real estate agents.

¡May use current and expired listings as well as sales.

lAppraisal is based on actual sales, not listings.

Sales comparison appraisal vs. CMA


Appraiser needs at least three good comparables.

Identifying comparables


Appraiser needs at least three good comparables.

In choosing comparables, appraiser concerned with:

ldate of sale,

llocation of property,

lphysical characteristics of property,

lterms of sale, and

lconditions of sale.

Identifying comparables

Identifying Comparables

More recent comparable sales provide more accurate reflection of current marketplace.

Date of sale



lSales should be within past six months.

�And if more than a few months old, mayrequire adjustment for area price trends.

Date of sale



lSales should be within past six months.

�And if more than a few months old, mayrequire adjustment for area price trends.

lIn slow market, may have to use sales more than six months old and make adjustments.

�But never more than a year old.

Date of sale


Comparables should be from neighborhood where subject property is located.

Location of sale


Comparables should be from neighborhood where subject property is located.

If there aren’t any, appraiser can look elsewhere, in comparable neighborhoods.

¡Make appropriate adjustments.

Location of sale


Comparable property should have physical characteristics similar to those of subject property.

To indicate value of subject property, comparable’s price adjusted:

Physical characteristics




�down if subject lacks feature;





�down if subject lacks feature;

�up if subject has extra feature.



Appraiser must take into account influence terms of sale may have had on price paid for comparable.

�Buyer may pay more for property if seller finances or pays points.

Terms of sale


Appraiser must take into account influence terms of sale may have had on price paid for comparable.

�Buyer may pay more for property if seller finances or pays points.

lUSPAP requires appraiser to state whether market value estimate is stated in terms of:

¡cash,¡cash-equivalent financing, or

¡other precisely defined terms.

Terms of sale


A comparable reliably indicates value only if sale took place under normal conditions:

lsale between unrelated parties (arm’s length transaction);

Conditions of sale




lboth parties:�free of unusual pressure,�informed of property's qualities,�acting in own best interests; and

Conditions of sale




lboth parties:�free of unusual pressure,�informed of property's qualities,�acting in own best interests; and

lproperty on open market forreasonable time.

Conditions of sale


If subject property is REO, appraiser should use only other REOs as comparables.

lREO: property bank-owned after foreclosure

lREOs usually less valuable than otherwise similar properties, due to:

¡vandalism and deterioration

¡difficulties of institutional sales

Conditions of sale


Appraiser rarely can find three homes exactly like subject property.

Must make adjustments to account for differences in:

çtime,

ç location,

çphysical characteristics, or

çterms of sale.

Adjustments


The more adjustments necessary, the less reliable the comparable is as an indication of subject property’s value.

Adjustments


Appraiser selects estimate of subject property’s value from within range established by adjusted selling prices of comparables.

This process is called reconciliation.

Reconciliation


For most residential properties, appraiser must complete Market Conditions Addendum to the Uniform Residential Appraisal Report.

Addendum gives lender picture of local housing market.

Market conditions

Summary


ÄComparable salesÄCMAÄDate of saleÄLocationÄPhysical characteristicsÄTerms of saleÄConditions of saleÄAdjustmentsÄREOÄMarket Conditions Addendum

Appraisal Methods

Replacement cost method is based on premise that a property’s value won’t exceed cost of replacing it.

Replacement cost method

Replacement Cost Method

Step 1: Estimate cost of replacingbuilding and any other improvements on property.

Three steps



Step 2: Estimate and deduct any accrued depreciation.

Three steps



Step 2: Estimate and deduct any accrued depreciation.

Step 3: Add value of lot to depreciated value of improvements.

Three steps


Replacement cost

How much it would cost to construct a new building with equivalent utility.

Estimating replacement cost


Replacement cost

How much it would cost to construct a new building with equivalent utility.

Reproduction cost

How much it would cost to construct an exact replica of the building, at current prices.



Comparative unit method is simplest way to estimate replacement cost.

¡Also called square foot method.

lAnalyze cost per square foot for recently built comparables.

lMultiply estimated cost per square foot by number of square feet in subject building.

lMake appropriate adjustments.



Depreciation = Loss in value from any cause

lValue can be lost because of:

¡physical deterioration,

¡ functional obsolescence, or

¡external obsolescence.

Estimating depreciation

Estimating Depreciation

Physical deterioration

Includes wear and tear, damage, and structural defects that reduce the value of the property.

Physical deterioration


Functional obsolescence

Loss in value due to inadequacies such as poor design or outmoded features.

¡Also called functional depreciation.

Functional obsolescence


External obsolescence

Loss in value due to factors outside the property.

lDeteriorating neighborhood, zoning changes, or poor access to schools, shopping, or employment centers.

¡Also called economic obsolescence.

External obsolescence


Depreciation is either:

�CurableCost of correcting could be recovered in sales price when property sold.

Curable or incurable


Depreciation is either:

�CurableCost of correcting could be recovered in sales price when property sold.

�IncurableCost of correcting too much to recoverwhen property sold.



lPhysical deterioration or functional obsolescence may be curable or incurable.

�Curable depreciation due to physicaldeterioration is often called deferredmaintenance.

lExternal obsolescence is always incurable.

�Outside property owner’s control.



Appraisal submitted to underwriter in one of two ways:

¡ “as is”

¡ “subject to”

As is or subject to


“As is” appraisal reports deferred maintenance, but final value estimate is market value of property in its current condition.

As is or subject to


“Subject to” appraisal’s value estimate represents what market value would be if deferred maintenance were corrected.

As is or subject to


Last step in replacement cost method:

lAdding value of land to depreciated value of improvements.

�Land value is estimated by salescomparison method.

Adding land value

Summary


ÄReplacement costÄReproduction costÄComparative unit (square foot) method

ÄPhysical deteriorationÄFunctional obsolescenceÄExternal obsolescence

ÄCurable and incurable depreciationÄDeferred maintenanceÄAs is or subject to

Appraisal Methods

Income method is based on the idea that a relationship exists between the income a property generates and its value.

Income method

Appraisal Methods

Income method is based on the idea that a relationship exists between the income a property generates and its value.

For single-family residential rental properties, appraisers use simplified version of income method called gross income multiplier method.

Income method

Income Method

In gross income multiplier method (a.k.a. gross rent multiplier method), appraiser looks at relationship between rental property’s income and price paid for property.

Gross income multiplier method

Gross Income Multiplier Method

Appraiser may use either annual or monthly multipliers.

Annual multiplier =

Sales price ÷ Annual rental income

Monthly multiplier =

Sales price ÷ Monthly rental income

Annual or monthly multipliers


Appraiser applying gross income multiplier method locates at least three or four comparables.

�More comparables may be needed,depending on market.

lCalculates annual or monthly multipliers for the comparables.

lUses comparables’ multipliers as basis for selecting multiplier for subject.

Choosing appropriate multiplier


Finally, appraiser multiplies subject property ’s rent by the chosen multiplier to find the property ’s value.

Using multiplier to estimate value


Appraiser should use subject property ’s economic rent to calculate value.

�Economic rent = rent the property could generate in current market if it were available.

�Contract rent = rent the owner is actually receiving.

Economic rent vs. contract rent

Appraisal Methods

Reconciliation: When applying more than one appraisal method, appraiser must analyze and interpret results to decide on final value estimate for subject property.

lEssentially the same process as reconciling adjusted values of comparables to arrive at value indicator in sales comparison method.

Reconciliation and final value estimate

Appraisal Methods

Final value estimate:

lNot an average of value indicator figures.

lAppraiser gives greater weight to more reliable value indicators.

�Sales comparison method most reliablefor residential property.

Reconciliation and final value estimate

Summary

Income Method and Final Value Estimate

ÄIncome methodÄGross income multiplier methodÄAnnual multiplier

ÄMonthly multiplierÄEconomic rentÄContract rent

ÄReconciliationÄFinal value estimate

Dealing with Low Appraisals

Low appraisal

An estimate of value that is below the price agreed upon by the buyer and the seller.


Low appraisal


�If sale contingent on financing, buyer may not have to complete the sale.


Low appraisal


�If sale contingent on financing, buyer may not have to complete the sale.

�Low appraisal would mean smaller loanand bigger downpayment.


Possible solutions after low appraisal:

�Buyer pays over value.

�Seller lowers price to appraised value.

�Compromise price.

�Request for reconsideration of value.

Possible solutions


Prevent low appraisal by helping seller price property correctly.

¡Perform careful CMA.

¡Price personal property separately.

Preventing low appraisals


Perform a careful CMA

Agent needs to be familiar with the most comprehensive and accessible sources of information about sales and listings.



Price personal property separately

Underwriting guidelines require appraisers to exclude value of personal property from final value estimate.

¡Value of fixtures is included.



When appraisal comes in low:

¡Ask lender for information.

¡Evaluate appraisal.

¡Update CMA.

¡Submit request for reconsideration only if lender likely to grant it.

Request for reconsideration of value


Ask loan officer for following information:

1. final value estimate,

2. value indicated by sales comparison method, and

3. addresses of comparables used by appraiser.



Some lenders have their own form for requests for reconsideration.

Otherwise, present your information in the same format used in “Sales Comparison Analysis” section of Uniform Residential Appraisal Report form.



Some lenders have their own form for requests for reconsideration.

Otherwise, present your information in the same format used in “Sales Comparison Analysis” section of Uniform Residential Appraisal Report form.

¡Write a cover letter and attach sales comparison analysis to it.


Summary


ÄLow appraisalÄFinancing contingencyÄCMA

ÄPersonal propertyÄFixturesÄRequest for reconsideration of value

Real Estate Finance Lesson 9 Cumulative Quiz

1. An appraiser in a residential loan transaction is concerned with a property's:

A. assessment value B. liquidation value C. market value D. use value

2. The principle of value that states that the maximum value of a property is determined by the cost of obtaining an equally desirable property is:

A. anticipation B. conformity C. contribution D. substitution

3. Lenders will base the loan amount on:

A. the appraised value B. the sales price C. the appraised value or sales price, whichever is less D. the appraised value or sales price, whichever is more

4. Which federal law requires appraisals used in federally related loan transactions to be performed by state-licensed or state-certified appraisers?

A. Fair Credit Reporting Act B. Financial Institutions Reform, Recovery, and Enforcement Act C. Real Estate Settlement Procedures Act D. Truth in Lending Act

5. Which of the following loans would be considered the least risky to a lender?

A. $80,000 loan amount for a $100,000 property B. $180,000 loan amount for a $200,000 property C. $255,000 loan amount for a $300,000 property D. $380,000 loan amount for a $400,000 property

6. Which of the following is the final step in the appraisal process?

A. Apply the appropriate methods of appraisal B. Define the problem C. Issue the appraisal report D. Reconcile the results to arrive at a final value estimate

© 2009 Rockwell Publishing 1

7. Which of the following is not one of the three basic methods of appraising real estate?

A. Income method B. Replacement cost method C. Sales comparison method D. Square foot method

8. A key difference between an appraisal and a competitive market analysis is that a CMA may use _____, while an appraisal may not.

A. current listings B. expired listings C. recent sales D. Either A or B

9. Which of the following is not one of the key factors in determining whether a recent sale is a suitable comparable?

A. Conditions of sale B. Cost of construction C. Date of sale D. Location of property

10. In a typical market, an appraiser should make adjustments to compensate for inflationary or deflationary trends when using a comparable that sold:

A. within the previous three months B. within the previous six months C. more than several months in the past, but less than one year D. at least one year in the past

11. A subject property has a hot tub. The comparable sale does not have a hot tub. A hot tub adds $5,000 in value to a property. The appraiser should:

A. add $5,000 to the sales price of the comparable B. add $5,000 to the value of the subject property C. subtract $5,000 from the sales price of the comparable D. subtract $5,000 from the value of the subject property

12. An appraiser finds it would cost $380,000 to construct an exact replica of the subject property. This is an example of:

A. depreciated cost B. replacement cost C. reproduction cost D. square footage cost


13. An older house has problems with peeling paint and warped siding. This is an example of:

A. deferred maintenance B. external obsolescence C. functional obsolescence D. incurable depreciation

14. An example of external obsolescence would be:

A. a house with four bedrooms and only one bathroom B. a leaking roof C. lack of seismic retrofitting D. rising crime rates in the subject property's neighborhood

15. The gross income multiplier method is appropriate primarily when valuing:

A. a single-family residence used as a rental B. a 10-unit apartment building C. an office complex D. an owner-occupied single-family residence

16. The subject property rents for $1,500 per month. A nearby property rents for $1,450 and sold for $290,000. Another nearby property rents for $1,550 and sold for $310,000. What is the subject property's most likely value?

A. $290,000 B. $295,000 C. $300,000 D. $310,000

17. The process of analyzing value indicators from the various appraisal methods in order to arrive at a final value estimate is known as:

A. extraction B. interpolation C. reconciliation D. regression

18. If an appraisal comes in low, why is this likely to lead to the termination of the transaction?

A. A buyer may be reluctant to pay more for the property than it's worth B. A lender may not issue the loan because the property does not offer adequate collateral C. A seller may withdraw from the sale because the property was listed too low D. Both A and B


19. If a low appraisal occurs, a real estate agent should approach this person to find out the final value estimate and comparables used:

A. appraiser B. loan officer C. seller D. closing agent

20. Including personal property in a purchase agreement is inadvisable because:

A. adding personal property will increase the sales price, while the appraiser will not include personal property in the appraisal

B. an appraiser will include the personal property in the appraisal, increasing the risk of a larger loan amount that the buyer can't qualify for

C. fixtures are never considered part of the real property D. it is a violation of the license law


Documents

Graphic Summaries Quizzes - chabot-classes.wdfiles.comchabot-classes.wdfiles.com/local--files/financing-class/Lesson_9.pdf · Financing Residential Real Estate Lesson 9: Qualifying