Appraisal Strategy Altered in Unstable Canadian Market
Several Canadian banks have reconsidered their appraisal strategies due to increased concern about the accuracy of property values in a market with the potential to overheat, the Globe and Mail reported June 13.
Canadian lenders currently use such valuation methods as full appraisals, drive-by appraisals and databases to determine market value.
Banks are emphasizing on-site visits, particularly for properties over a certain price threshold or in rural areas, the Globe and Mail reported. They also are more carefully evaluating who performs appraisals. The banks hope that increased diligence will result in more accurate values in light of concerns about an overheated housing market. If standards are tightened or appraisals are more conservative, loan amounts that banks lend could decrease.
According to the Globe and Mail, appraisal values increase in importance when a borrower defaults and the institution is forced to sell the property to recover its loss. Accuracy is particularly critical in the current market in which property values are believed to be inflated and borrowers are assuming record debt levels, compounding the possibility of defaults.
While no evidence exists of widespread issues in Canada’s appraisal system and bankers express a comfort level with the values on their books, lenders and regulators recently have been reevaluating the system to ensure accuracy.
“We have tightened our process and made sure that we are getting an accurate read,” David McKay, the head of Canadian banking at Royal Bank of Canada, the country’s largest mortgage lender, told analysts, the Globe and Mail reported. “When you think you have an 80 percent loan-to-value ratio, you want to make sure you have an 80 percent loan-to-value ratio.”
Mark Chauvin, Toronto-Dominion Bank’s chief risk officer, told analysts that in certain active markets such as Vancouver and Toronto, appraisal values are coming in slightly higher than purchase prices, the Globe and Mail reported.
“We’re really not seeing a lot of it,” he said. “But we feel our existing policies will protect us against that.”
TD lends 80 percent loan-to-value up to $900,000, but then only lends 50 percent to guard against inflated values on high-end homes. “So if you take a $2 million house, you get a loan-to-value of 56 percent under the sliding scale,” Chauvin said, the Globe and Mail reported.
Some banks started to address this issue last year after purchasing insurance from First American Financial Corporation. The California-based insurance firm reported a sizeable charge related to insurance that covered risks tied to the possibility that property values were inaccurate.
The banks were buying a “guaranteed valuation” product that ensured the valuation of a property was accurate on the day a mortgage was issued, the Globe and Mail reported. The bank was able to make a claim if the value was inaccurate.
First American posted a first quarter loss in 2011, taking a $45 million reserve strengthening charge tied to this unusual Canada-only product.
Policies that had claims primarily were written in 2007 and 2008. Sources told the Globe and Mail that the problem mostly stemmed from Alberta, where the housing market began a correction in 2007, and issues became clear as defaults rose, resulting in banks taking more properties as collateral.
“This is just a case where we mispriced the risk,” First American CEO Dennis Gilmore told analysts, the Globe and Mail reported. The firm declined to comment to the news outlet.
Bankers said that the company stopped offering that insurance in the same form. “It’s a big change in the industry; we’ve all kind of morphed our property valuation strategies as a result of this occurring,” a senior banker told the Globe and Mail.
Spokespeople at Bank of Montreal and Bank of Nova Scotia told the Globe and Mail June 13 that their institutions already were emphasizing in-person appraisals.
According to the Globe and Mail, the Office of the Superintendent of Financial Institutions is introducing new mortgage underwriting rules that mandate bankers have clear policies detailing how properties are valued. It is pushing them to utilize multiple tools and to include a comprehensive on-site appraisal unless there’s a good reason to use an alternate method.
Banks “should not use title insurance or valuation insurance as a substitute for a sound appraisal or valuation process,” OSFI stated, the Globe and Mail reported.
~ Source Appraisal Institute