Banks are in liquidation mode. Most are experiencing losses, and with the Office of Thrift Supervision (OTS) now under the supervision of the Office of the Comptroller of the Currency (OCC), banks cannot show the same losses that they could prior to this merger. There is a lot of inventory that must be managed, maintained and ultimately moved off the bank’s books. Banks are under pressure from both the regulatory agencies, and also face pressures from the market. Some are struggling to make this movement happen, while others are quickly selling properties that are severely undervalued. The marketplace is flooded with real estate-owned (REO) properties that are ill-maintained and not in the condition to compete with comparable resale properties.
Best practices approach: In-house or outsource?
There are steps, however, that a bank can take in order to more effectively manage this process and their REO portfolio, contributing to the overall health of the bank, despite a flooded market. A bank has two options when it comes to managing an REO property: Outsource the job to an REO management service, or control the process internally. REO management services may or may not have the background and expertise to seize, secure, maintain and sell the property on behalf of the bank, but banks are not in the business of managing properties and are challenged when it comes to filling this role.
If a bank chooses to outsource, there are several factors to consider in evaluating REO management services. Before the mortgage meltdown, there was not a high demand for these types of services. Accordingly, most have not been around for more than a few years. Is the company equipped to deal with seizure of the property, i.e. is the property owner squatting in the home, or has the property owner contributed to significant destruction? Secondly, can the company secure and maintain the property? Mold is the number one contributing factor in rehab expenses and can cost upwards of 20 to 30 percent of the home’s value to remediate. If the property is not secured properly, mold will be the biggest problem and will dramatically decrease the salability of the home.
Once the home has been secured and properly maintained, a price must be set. When it is time to sell the property, there are a lot of market indicators that could determine what that property is worth based on the original appraisal report. An accurate price determines if a property moves quickly, or if the bank will need to manage it for months, if not years. Undervaluing an REO property will result in market flooding and will push the resale market down along with it. The resale market is forced to drive down prices in order to compete with the flooded and undervalued REO market.
If a property is listed for more than six months, there is a very good chance that the value of the home is no longer close to accurate. The market is a moving target, typically in a downward trend. Six months of non-movement equals a considerable amount of expense for the bank in maintenance and upkeep.
Invest now to save later: BPO doesn’t mean “best price option”
Most properties are valued by a broker price opinion (BPO), which is set by the selling agent. Since few banks are able to gauge the true value of the home, the BPO is the most commonly used and driving force behind the value of the home.
Unfortunately, BPOs don’t work. Some agents are in the practice of providing very aggressive BPOs to banks. A low BPO enables the bank to price the property at the low end of the market, theoretically allowing the bank to move the property faster and the agent to turn a profit faster. One of the main issues with this is that agents only make $20-70 per BPO, which might have a negative effect on the overall quality of work and may not provide true value to the bank.
As an alternative to a BPO, banks can obtain an appraisal to set the price. There are several benefits from choosing this route, but all start with more initial cost from the bank upfront. An appraisal will cost the bank between $300-$400, as compared to $70-140 for a BPO. This cost becomes negligible when there is potential to add thousands, if not millions of dollars in some cases, in potential value. When a bank leverages a highly-qualified appraiser, the appraiser becomes personally knowledgeable of the REO portfolio in order to better understand the bank’s position, goals and strategy: A six-month timeline to liquidate is significantly different than a nine-month timeline. Understanding this nuance could be the equivalent of success for the bank.
On average, an appraiser will value the bank’s portfolio higher than a BPO. Banks sell a property for what the understood value is. If a bank has a more accurate initial value, even if it is higher, it can more than likely sell the property just as quickly. Understanding what other active REO properties in the market are selling for, at any income level and state of condition, will put the bank in a better position to garner higher value for the REO. While there is more upfront cost, an experienced appraiser will value the property for what it is truly worth, enabling the bank to move it quickly and ultimately recover more value in the end.
Depending on the size of the REO portfolio, a bank can better manage the process from a micro standpoint as opposed to a macro standpoint. From taking back the property, to valuing it, to putting it back on the market, a bank can analyze this progression to more effectively control and even cut its losses. Being more involved in the valuation and more successfully managing the method will put the bank in a much better position when the property goes on the market.
Regulatory pressures and market conditions are forcing banks to move REO properties at values that may not accurately reflect home values in the area. Several factors contribute to the success of selling these properties, but can be more efficiently and profitably managed in order to promote the highest value and highest quality sale. Every day that a bank maintains a property that isn’t valued correctly, it is leaving money on the table and walking away from found value. An accurate price does not mean depending on a subjective BPO, but requires a more hands-on approach in which a bank will be better equipped to handle a flooded REO marketplace.
Frank Danna is chief executive officer for Appraisal Logistics, a provider of compliance risk management for appraisal independence. He may be reached by phone at (866) 991-2574, ext. 222 or e-mail [email protected]