Yesterday, the Real Deal published an article reporting that Lone Star, a Texas-based Private Equity group, is suing local New York appraisers. We are familiar with Lone Star as a lender on a number of large, Predatory Equity portfolios we have been tracking for many years. Now, Lone Star is arguing that during the housing boom, appraisers acted “fraudulently and negligently” when valuing properties, and as a result Lone Star mis-lent.
As we have previously asserted on this blog, we believe that banks have a pivotal role to play in breaking the cycle of Predatory Equity. Despite how we may sometimes feel, banks do not arbitrarily set a price for their distressed assets, nor do they arbitrarily decide how much they are willing to lend on a property. As we understand it, third party building appraisers are hired by banks to determine the real value of a particular asset, and lending levels are supposed to reflect this value. It’s interesting that a major Predatory Equity lender is suing real estate appraisers for property evaluations during the housing boom. Though we are not appraisal experts, we certainly have a few thoughts.
- According to at least one bank we work with, appraisers are not taking building conditions into account when determining value of a property. This is a huge problem. How can buildings be bought and sold for the right price if the repair needs – potentially millions of dollars — are ignored? To us, it’s a no-brainer that the cost to stabilize a distressed property must be taken out of the total value when determining the cost of acquisition. Otherwise, the building is doomed for shoddy repairs and another round of neglect.
Another aspect of this article which is particularly strange is that Lone Star is the group driving these cases. We haven’t seen specific examples, but would likely agree with them that pre-2008 home values were highly inflated. However, it’s odd for us to uncritically side ourselves with a Predatory Equity company, so we have some follow-up thoughts:
- The article quotes Matthew Parrott, an independent attorney. He says “the cases appear to be a way for Lone Star to generate revenue from distressed loans.” We don’t fully understand how this works. Has Lone Star determined that they paid too much for a distressed asset, and are now trying to sue other parties to recoup their losses?
- Banks hire independent appraisers but those appraisers do not hold a guns to banks’ heads commanding them to lend at a particular level. We believe that the lenders’ eagerness to maximize profit encouraged them to believe the perhaps-inflated appraisals. Lone Star still made the loan. It seems that Lone Star is attempting to place blame for their own mistakes on other parties.
The question of appraisal seems to be linked to how much faith one puts in the free market: do you believe that the value of an asset is what someone will pay for it? Or is the value linked to the actual income potential (in NYC: regulated rents) and conditions (cost of repair)? We certainly believe that it is the latter. Any bank making loans should hire appraisers that know building details like rent roll, and have been inside of apartments, and have checked out the boiler, the roof, and other systems.
We leave you with one last question: what would it take to reform the way that appraisers value buildings? We intend to continue to thinking about this issue, and flush out potential answers to that question. Stay tuned!
June 27, 2011
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In Predatory Equity you can take your pick of parties to blame.
Is it Fannie? Freddie? The ratings agencies? The landlords? The lenders? The special servicers? The recievers? Or, is it the appraisers?
NPR ran a great story on appraisers in February of 2009. In an interview with Chad Terhune, senior writer at Business week, they discussed “When Property Appraisers Go Bad”. Here’s an excerpt:
Mr. CHAD TERHUNE (Senior Writer, Business Week): What you had in many cases were homes being overvalued. And what would happen is mortgage brokers or lenders order an appraisal, either for a home purchase or refinancing, and they would ask an appraiser to hit a certain number, say $200,000, on a house to get the deal done when really the house is only worth 150,000. And oftentimes, an appraiser would go along with this because they wanted the business. If they refused, the broker or lender would just go to another appraiser until they found one that would go along with this number.
Now, why were lenders and brokers doing this? Well, oftentimes, if the loan is a higher amount, everybody in the real estate food chain gets higher commission. And if you’re a homeowner you say, well, what’s the harm? My loan closed. They got my refinancing. But what happens is a lot of people overpaid for their house. They took on way too much mortgage debt, and they were immediately what they call upside down on their house. They owed too much on their house than it was really worth.
Appraisals are rarely mentioned when it comes to Predatory Equity, but they certainly help fuel the process of speculation and assist banks in overvaluing their assets. Here at UHAB we’ve spent some time considering creative strategies – and here’s how YOU CAN HELP. Do you know an appraiser? Are you an appraiser? CALL US! (212-479-3336)
There are six buildings in the Bronx with your name on them, plus four more in Brooklyn. We want to publicly appraise New York Community Bank buildings and go to the press with the numbers. Speculation is driven by an air of inaccurate mathematics, and we need an impartial pro-bono appraiser to speak honestly about value. Please, get in touch! Let’s tell NYC why Real Estate needs to reevaluate what it is asking for.