STATEMENT ON APPRAISAL STANDARDS NO. 10 (SMT-10)

SUBJECT: Assignments for Use by a Federally Insured Depository Institution in a Federally Related Transaction

APPLICATION: Real Property

The Issue

The Statement

Conclusions

THE ISSUE:

Federal financial institution regulatory agencies (agencies) have experience that indicate some appraisers are not following Uniform Standards of Professional Appraisal Practice (USPAP) and, when applicable, the agencies appraisal regulations99  and guidelines100 issued by the Federal Deposit Insurance Corporation (FDIC), Federal Reserve Board (FRB), Office of the Comptroller of the Currency (OCC), and Office of Thrift Supervision (OTS). This is particularly true in appraisals of commercial real estate and residential tract development projects. The agencies concerns involve three general appraisal areas: USPAP compliance, appraiser independence and appraisal review.

Federally insured depository institutions recognize that the agencies appraisal regulations and guidelines include the requirement that appraisals comply with USPAP in a federally related transaction.

Most appraisers recognize that the agencies appraisal regulations and guidelines supplement the USPAP requirements when an intended user of the assignment results is a federally insured depository institution for a federally related transaction. However, some appraisers are uncertain as to:

• What does USPAP require when the intended user of assignment results is a federally insured depository institution and the intended use is in a federally related transaction, and

• how do the agencies appraisal regulations and guidelines, which include supplemental standards, affect the appraisers scope of work and report content requirements?

THE STATEMENT:

This Statement provides appraisers, users of appraisal services, and enforcement bodies with clarification, interpretation, explanation, and elaboration to reaffirm an appraisers USPAP obligations when performing an assignment for use by a federally insured depository institution in a federally related transaction.

The requirements in this Statement apply and are binding when an appraiser is developing an opinion of market value of real property for intended use by a federally insured depository institution in a federally related transaction.

ASB Response to the Issue

Each ASB response on how USPAP applies to a specific concern appears in italics followed by references to USPAP and guidance material in the Advisory Opinions section.

When the agencies appraisal regulations and guidelines supplement USPAP requirements, this Statement notes the agencies appraisal regulations or guidelines as supplemental standards. The ASBs statements about compliance with those requirements are in the context of the appraisers obligation to comply with the ETHICS RULE or COMPETENCY RULE, as applicable.

Given the scope of this Statement, a Table of Contents is provided.

A. GENERAL USPAP COMPLIANCE QUESTIONS

Appraisers who provide valuation services to a federally insured depository institution for use in a federally related transaction may be uncertain as to:

• when USPAP applies;

• whether the COMPETENCY RULE requirements extend to a client's appraisal regulations and guidelines, which supplement USPAP;

• whether the JURISDICTIONAL EXCEPTION RULE applies in such assignments; and

• whether compliance with the client's appraisal regulations and guidelines that apply under the SUPPLEMENTAL STANDARDS RULE is a USPAP compliance requirement.

1.        Applicability of USPAP

Compliance with USPAP is required when either the service or the appraiser is obligated by law or regulation, or by agreement with the client or intended users, to comply. The agencies appraisal regulations and guidelines require appraisers compliance with USPAP in an assignment where the intended user of the assignment results is a federally insured depository institution and the intended use is in a federally related transaction. Therefore, appraisers are bound to comply with USPAP in performing those assignments.

2.       Competency is Required

Competency to perform an assignment includes the ability to complete the assignment in compliance with USPAP and any supplemental standards that the appraiser agrees are applicable in the assignment at the time the assignment is accepted by the appraiser.

An appraiser violates the ETHICS RULE if he or she knowingly misrepresents his or her competency to complete an assignment in compliance with USPAP and the agencies appraisal regulations and guidelines (supplemental standards).

Failure to complete the assignment competently, in accordance with the applicable USPAP requirements and supplemental standards the appraiser agreed to in accepting the assignment, violates the COMPETENCY RULE

3.       --Section Deleted--

4.       Jurisdictional Exception
 

None of the requirements in the agencies appraisal regulations and guidelines cause a need to apply the JURISDICTIONAL EXCEPTION RULE.

5.       Supplemental Standards
 

The agencies appraisal regulations and guidelines contain requirements that supplement USPAP. These supplemental standards, which affect an appraisers obligations in several areas, include

Specific Concerns Involving Noncompliance, Inconsistencies, and Omissions in Assignments Completed for Use by a Federally Insured Depository Institution in a Federally Related Transaction Are As Follows:

Bankers and examiners report that some appraisers are not following USPAP and the agencies appraisal regulations and guidelines. Each area of noncompliance, inconsistency, or omission is noted in bold and underlined text, followed by the ASBs response in italicized text as to the appraisers obligations to ensure compliance with USPAP. Where necessary, reference is also provided to the agencies appraisal regulations and guidelines following the subheading of SUPPLEMENTAL STANDARDS RULE.

B.      APPRAISER INDEPENDENCE ISSUES

1. Failing to follow existing appraisal standards to disclose present or prospective relationships with borrowers

Accepting an assignment involving parties or property in which the appraiser has a current or prospective interest that causes bias violates the ETHICS RULE.

Failure to disclose in the appraisers certification any present or prospective relationships with a party involved with the assignment or the subject of the assignment violates Standards Rule 2-3.

SUPPLEMENTAL STANDARDS RULE: The agencies appraisal regulations do not permit an appraiser to accept an assignment involving a property or transaction in which the appraiser has a direct or indirect interest, financial or otherwise. If an appraiser who has such an interest violates the agencies appraisal regulations by accepting such an assignment, he or she violates the SUPPLEMENTAL STANDARDS RULE.

2. Altering the title page, transmittal letter, or the identity of the intended user of an appraisal report to mislead the reader to believe the report was originally prepared for the lender and not the borrower

Altering a report in a manner that conceals the original client or intended users in the assignment is misleading and violates the Conduct section of the ETHICS RULE. For example, an appraiser performs an appraisal and delivers the report to his client. The appraisers client then asks the appraiser to readdress this appraisal to a specific federally insured depository institution. The client knows that the appraiser is on that institutions approved appraiser list. The appraiser knows, when the original assignment is offered, that the client intends to request a loan from that institution after the original appraisal is completed. Accommodating the clients request to readdress the appraisal report in this example violates the ETHICS RULE. Indeed, even if the appraiser did not know the clients original intent, altering such a report in a manner to conceal the original client or intended users violates the ETHICS RULE.

C. SCOPE OF WORK ISSUES - MISUSING THE SCOPE OF WORK RULE

1. Insufficiently supporting an opinion of value that results in a conclusion that is not credible (by inappropriate use of the SCOPE OF WORK RULE)

The appraiser must determine that the scope of work includes the research and analyses that are necessary to develop credible assignment results. The appraiser must be prepared to demonstrate that the scope of work is sufficient to produce credible assignment results.

Failure to determine and complete the scope of work necessary to develop credible assignment results violates the SCOPE OF WORK RULE and Standards Rule 1-2(h).

2.   --Section Deleted--

3. Omitting an approach to value that typical practice and peers would require

Omitting an approach to value that would be completed by an appraisers peers in the same or a similar assignment and would also be an expectation of parties who are regularly intended users for a similar assignment, violates the SCOPE OF WORK RULE. For example, using other approaches while failing to develop an indication of value by a sales comparison approach [SR 1-4(a) when there are sufficient sales for analysis and the market response to the property is best indicated by sales analysis violates the SCOPE OF WORK RULE. Omitting an approach to value that typical practice and peers would require.

Failure to explain the reason for excluding the sales comparison approach, cost approach, or income approach violates the applicable reporting rules [SR 2-2(a) or (b)(VIII).

4.   --Section Deleted--

D. USING HYPOTHETICAL CONDITIONS

1. Failing to disclose known facts concerning the physical, legal, or economic characteristics of the property being appraised when using a hypothetical condition.

When a property is appraised for market value as of a current date based on a hypothetical condition, an appraiser must ensure:

• That use of a hypothetical condition [SR 1-2(g)], such as when the subject property involves proposed improvements as of a current date, is appropriate and produces credible assignment results.

• The appraisal report states the property use as of the date of value and the use reflected in the appraisal under the hypothetical condition [SR 2-2(a) or (b)(ix)]. For example, the subject property that exists as of the date of value, which is a current date, is raw land but is appraised under a hypothetical condition as an improved property. The property use information included in response to Standards Rule 2-2(a) or (b)(ix) must include the property characteristics relevant to both the existing and proposed uses.

When the client requests a prospective value for the property under an extraordinary assumption [SR 1-2(f)] that the proposed improvement project or rehabilitation is completed as of a future date, an appraiser must ensure compliance with Statement on Appraisal Standards No. 4 (SMT-4), Prospective Value Opinions. Additional guidance is contained in Advisory Opinion 17, Appraisals of Real Property with Proposed Improvements.

2. Failing to indicate the as is value of the property as of the date of the report and how the as is value differs from the value conclusion under a hypothetical condition.

When a property is appraised for market value as of a current date based on a hypothetical condition, an appraiser must ensure that the appraisal report contains appropriate disclosure of the hypothetical condition, including that its use might have affected the assignment results [SR  2-1(c) and SR  2-2(a)  and (b)(x)].

SUPPLEMENTAL STANDARDS RULE: The agencies appraisal regulations require sufficient information and analysis to support the regulated institutions decision to engage in the transaction. The agencies guidelines state that for federally related transactions, an appraisal is to include the current market value of the property in its actual physical condition and subject to the zoning in effect as of the date of the appraisal (current date of value). If, by failing to provide this opinion, when possible, an appraiser violates the agencies appraisal regulation and guidelines, the appraiser violates the SUPPLEMENTAL STANDARDS RULE.

If it is not possible to provide an opinion as to the current market value of the property in its actual physical condition and subject to the zoning in effect as of the date of the appraisal, the appraiser must clearly explain the circumstances and reasons why such an opinion could not be developed and reported.

E. ANALYSIS ISSUES

1. Failing to adequately address real estate market risk (trends)

An appraiser must use sufficient care to avoid errors that would significantly affect his or her opinions and conclusions. Diligence is required to identify and analyze the factors, conditions, data, and other information that would have a significant effect on the credibility of assignment results [SR 1-1(b), Comment].

An appraiser must have sound reasons in support of the scope of work decision and be prepared to support the decision to exclude any investigation, information, method or technique that would appear relevant to the client, another intended user, or the appraisers peers. Failing to include in the scope of work sufficient market trend research and analyses to develop credible results violates Standards Rules 1-1(a) and (b) and Standards Rule 1-2(h).

SUPPLEMENTAL STANDARDS RULE: The agencies appraisal regulations require sufficient information and analysis to support the regulated institutions decision to engage in the transaction. Market area trend analysis information is essential to the intended users understanding of market risk and how market trend was addressed in developing the value opinion in a market value appraisal.

Analysis of market area trend information is a necessary part of the scope of work to comply with the requirements stated in Standards Rules 1-2(e), and 1-4.  An appraiser must be prepared to demonstrate that the scope of work is sufficient to produce credible assignment results in view of the agencies appraisal regulations that require sufficient information and analysis to support the regulated institutions decision to engage in the transaction that prompted the need for the appraisal.

Standards Rule 1-3(a) includes the requirement to identify and analyze, among other things, economic demand and market area trends. The Comment to Standards Rule 1-3(a) states, An appraiser must avoid making an unsupported assumption or premise about market area trends, & If an appraiser violates the agencies appraisal regulations by failure to conduct sufficient research and analysis of market area trend data or by failure to include the result of such analysis in the appraisal report, the appraiser thus violates the SUPPLEMENTAL STANDARDS RULE.

Standards Rule 1-4(c)(iv) states, When an income approach is necessary for credible assignment results,  an appraiser must: & base projections of future rent and/or income potential and expenses on reasonably clear and appropriate evidence. The Comment to Standards Rule 1-4(c)(iv) states, In developing income and expense statements and cash flow projections, an appraiser must weigh historical information and trends, current  supply and demand factors affecting such trends, and anticipated events such as competition from developments under construction. If an appraiser violates the agencies appraisal regulations by failure to complete sufficient research and analysis of market area trends affecting rental and expense levels and relationships in an appraisal of income-producing commercial real estate in which an income approach was completed, or by failure to include the result of such analysis in the appraisal report, the appraiser thus violates the SUPPLEMENTAL STANDARDS RULE.

2. Using comparable sales transactions that are not arm's length

The definition of market value applicable in an assignment establishes the conditions for an arms length sale transaction under that definition. When developing an opinion of market value, using sales that are not arms length is not acceptable appraisal practice if an adequate number of relevant arms length sales are available for analysis. If market conditions result in the necessity to use sales that are not arms length in an appraisal, the sale analysis must identify and apply appropriate adjustments to result in a value indication consistent with the terms and conditions of sale set forth in the market value definition applicable in the assignment.

3. Reporting the sum of retail values of units for a tract development project (5 units or more in a single development) as representing the market value of the whole property.

The subject property in an appraisal of a subdivision or a tract development is the project itself (e.g., land with entitlements to develop improved properties, such as lots or finished lots with structures), not the individual units of finished product.

The sum of retail values for the lots or homes produced in tracts is not the market value of the project in an appraisal developed for use in project development financing. It is inappropriate to value a subdivision or tract development project by adding together the values for the individual units of finished product. It is misleading to report the sum of the values for individual units of production as the market value of the subdivision or tract development project. If the market value for individual units of production (e.g., proposed residences) is requested by the client, such as for use in take-out loan commitments, those value opinions must be developed in the context of that intended use. The individual values must not be summed and characterized in an appraisal report as the market value of the project.

4. Using non-market-based time constraints when applying deductions and discounts in the valuation of proposed construction or renovation, partially leased buildings, and non-market lease terms.

The use of non-market-based time constraints when analyzing a property produces a result that is not market value. In the event a client requests use of non-market based factors, or no discounting for a defined time period, the result is more in character with an investment value or some other value under its specified marketing, loan liquidation or collection criteria, or accounting applications. When an assignment includes client-specified marketing, sale, or acquisition conditions that are distinct from typical market conditions, it is misleading to label the result a market value opinion.

5. Providing an undiscounted value conclusion to an institution when the institution is financing the development of and not the end purchase of the individual unit(s); and failing to report appropriate deductions and discounts for a tract development appraisal .

When the intended use of assignment results is for tract development project financing and a market value opinion is developed by use of a discounted cash flow analysis (DCF), the DCF analyses must include appropriate market-based deductions and discounts to reflect market value (present worth).

When the subject of the appraisal is a proposed project and an analysis method is a DCF, or other methods that involve discounting, the time frame over which discounting occurs must be consistent with the projects overall production and completed unit absorption period. The factors applied should be market-derived and must reflect the markets anticipated response to the difference between the date of value and receipt of the cash flows, project risk, and market trends, not only the time-value of money.

6. Failing to analyze a current agreement of sale, option, or listing of the property being appraised; and failing to identify and analyze all prior sales of the subject property (within required time frames), which may facilitate land flip deals.

Given the intended use of the assignment results by a federally insured depository institution, an appraiser must take all reasonable steps to gather and verify relevant information concerning the subject propertys current market activity and marketing history.

An appraiser can demonstrate due diligence efforts, in compliance with Standards Rule 1-1(b), to obtain relevant information regarding all current agreements of sale, options, or listing of the property being appraised [SR 1-5(a)] by documenting in the appraisal report the appraisers direct inquiry to the federally insured depository institution, or its agent, that requested the appraisal service. Failure to make such due diligence effort, or failure to state adequate supporting reasons in response to Standards Rule  2-2(a) or why such information is not obtainable or is not relevant, violates Standards Rule 1-1(b).

.

The time frames cited in Standards Rule  1-5(b) are minimums. If market activity concerning the subject property from prior periods is known and relevant, it should also be analyzed and addressed. The requirement is for an analysis of all sales that occurred in the minimum time frame, not just the most recent sale. For example, if a property sold twice within the minimum time frame, both sales must be analyzed. The summary of the sales analyses reported in compliance with Standards Rule 2-2(a) or (b)(viii) must include data sufficient to identify each relevant prior sale of the subject, including (when available) sale date, amount, type and terms of financing if any, and names of the seller and buyer. If relevant and necessary to a proper understanding of the sale, the conditions of sale and the property condition at sale must also be reported.

F. APPRAISAL REVIEW ISSUES

1. Changing the market value opinion in the appraisal report without adequately supporting their opinion, thus producing a conclusion that is not credible.

An appraiser functioning as reviewer may state his or her own opinion of value as part of the appraisal review assignment results. However, changes to the report content by the reviewer to support a different value conclusion must match, at a minimum, the reporting requirements for a Summary Appraisal Report. When appropriate, the reviewer can use extraordinary assumptions regarding the elements of the work under review that the reviewer accepts as credible in support of the reviewers value opinion. Elements of the work under review that the reviewer does not deem credible or in compliance must be replaced with information or analysis by the reviewer in developing his or her value opinion.

2. Failing to meet minimum USPAP reporting requirements for an institution that requires USPAP STANDARD 3 reviews.

An appraiser functioning as reviewer has the obligation to include information in the appraisal review report as required in Standards Rules 3-2 and 3-3. requires USPAP Standard 3 reviews.

CONCLUSIONS:

• General USPAP Compliance Questions

Appraisers are bound to comply with USPAP in performing assignments where the intended user of the assignment results is a federally insured depository institution and the intended use is in a federally related transaction. Competency to perform an assignment includes the ability to complete the assignment in compliance with USPAP and any supplemental standards that the appraiser agrees are applicable in the assignment at the time the assignment is accepted by the appraiser.

An appraiser accepting an assignment to be performed under the agencies appraisal regulations and guidelines is obligated to complete that assignment in a manner that complies with USPAP and the supplemental standards included in the agencies appraisal regulations and guidelines.

Accepting an assignment that the appraiser knowingly cannot complete in compliance with USPAP and the agencies appraisal regulations and guidelines that the appraiser agreed to in accepting the assignment violates the  ETHICS RULE.  

Failure to complete the assignment competently, in accordance with the applicable USPAP requirements and supplemental standards the appraiser agreed to in accepting the assignment, violates the COMPETENCY RULE.

• Appraiser Independence Issues

The agencies appraisal regulations, which supplement USPAP, do not permit an appraiser to accept an assignment involving a property or transaction in which the appraiser has a direct or indirect interest, financial or otherwise. If an appraiser who has such an interest violates the agencies appraisal regulations by accepting such an assignment, he or she violates the SUPPLEMENTAL STANDARDS RULE.

Altering a report in a manner that conceals the original client or intended users in the assignment is misleading and violates the Conduct section of the ETHICS RULE.

• Scope of Work Issues—Misusing the SCOPE OF WORK RULE

Failure to determine and complete the scope of work necessary to develop credible assignment results violates the  SCOPE OF WORK RULE and Standards Rule 1-2(h).

Failure to explain the reason for excluding the sales comparison approach, cost approach, or income approach violates the applicable reporting rules [SR 2-2(a) or  (b)(viii)].

• Using Hypothetical Conditions

The agencies appraisal regulations require sufficient information and analysis to support the regulated institutions decision to engage in the transaction. The agencies guidelines state that for federally related transactions, an appraisal is to include the current market value of the property in its actual physical condition and subject to the zoning in effect as of the date of the appraisal.

When such an appraisal with a current date of value is based on a hypothetical condition, the information in the appraisal report must include the appraisers opinion of the current market value of the property in its actual physical condition and subject to the zoning in effect as of the date of the appraisal (current date of value). If, by failing to provide this opinion when possible, an appraiser violates the agencies appraisal regulation and guidelines, the appraiser violates the SUPPLEMENTAL STANDARDS RULE. If it is not possible to provide an opinion as to the current market value of the property in its actual physical condition and subject to the zoning in effect as of the date of the appraisal, the appraiser must clearly explain the circumstances and reasons why such an opinion could not be developed and reported.

• Analysis Issues

Failing to include in the scope of work sufficient market trend research and analyses to develop credible results violates Standards Rules 1-1(a) and (b) and Standards Rule 1-2(h).

If an appraiser violates the agencies appraisal regulations by failure to conduct sufficient research and analysis of market area trend data or failure to include the result of such analysis in the appraisal report, an appraiser thus violates the SUPPLEMENTAL STANDARDS RULE.

If an appraiser violates the agencies appraisal regulations by failure to complete sufficient research and analysis of market area trends affecting rental and expense levels and relationships in an appraisal of income-producing commercial real estate in which an income approach was completed, or failure to include the result of such analysis in the appraisal report, the appraiser thus violates the SUPPLEMENTAL STANDARDS RULE.

When developing an opinion of market value, using sales that are not arms length is not acceptable appraisal practice if an adequate number of relevant arms length sales are available for analysis. If market conditions result in the necessity to use sales that are not arms length in an appraisal, the sale analysis must identify and apply appropriate adjustments to result in a value indication consistent with the terms and conditions of sale set forth in the market value definition applicable in the assignment.

It is inappropriate to value a subdivision or tract development project by adding together the values for the individual units of finished production. It is misleading to report the sum of the values for individual units of production as the market value of the subdivision or tract development project.

The use of non-market-based time constraints when analyzing a property produces a result that is not market value. When an assignment includes client-specified marketing, sale, or acquisition conditions that are distinct from typical market conditions, it is misleading to label the result a market value opinion.

When the intended use of assignment results is for tract development project financing and a market value opinion is developed by use of a discounted cash flow analysis (DCF), the DCF analyses must include appropriate market-based deductions and discounts to reflect market value (present worth).

When the subject of the appraisal is a proposed project and an analysis method is a DCF, or other methods that involve discounting, the time frame over which discounting occurs must be consistent with the projects overall production and completed unit absorption period. The factors applied should be market-derived and must reflect the markets anticipated response to the difference between the date of value and receipt of the cash flows, project risk, and market trends, not only the time-value of money.

An appraiser must take all reasonable steps to gather and verify relevant information concerning the subject propertys current market activity and marketing history. The time-frame cited in Standards Rule 1-5(b) is a minimum requirement. If market activity concerning the subject property from prior periods is known and relevant, it should also be analyzed and addressed. The requirement is for an analysis of all sales that occurred in the minimum time-frame, not just the most recent sale. The summary of the sales analyses reported in compliance with the Comment to Standards Rule 2-2(a) or (b)(viii) must include data sufficient to identify each relevant prior sale of the subject, including (when available) sale date, amount, type and terms of financing if any, and the seller and buyer. If relevant and necessary to a proper understanding of the sale, the conditions of sale and the property condition at sale must also be reported.

• Appraisal Review Issues

An appraiser functioning as reviewer may state his or her own opinion of value as part of the appraisal review assignment results. However, changes to the report content by the reviewer to support a different value conclusion must match, at a minimum, the reporting requirements for a Summary Appraisal Report.

An appraiser functioning as reviewer has the obligation to include information in the appraisal review report as required in Standards Rule 3-2 and 3-3.

Adopted July 10, 2000

Last Revised October 28, 2005

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