By Annie Matonis, J.D.
Regulators are inviting comment on a proposed rule to amend certain appraisal requirements under Title XI of the Financial Institutions Reform, Recovery, and Enforcement Act. The Office of the Comptroller of the Currency, Board of Governors of the Federal Reserve System, and Federal Deposit Insurance Corporation (collectively, the agencies) are proposing an increase to the threshold level at or below which appraisals would not be required for commercial real estate transactions, from $250,000 to $400,000. No changes are being proposed to the residential real estate threshold at this time.
The proposed change comes in response to feedback received earlier this year during the regulatory review process required by the Economic Growth and Regulatory Paperwork Reduction Act (EGRPRA). The current Title XI appraisal thresholds are outdated and impose an unnecessary time and cost burden on financial institutions for small-dollar amount real estate-related transactions, especially those in rural markets where it is notoriously difficult to find qualified appraisers.
In a statement issued on July 18, 2017, FDIC Chairman Martin J. Gruenberg expressed confidence that this proposal would provide "a meaningful reduction in regulatory burden, particularly for rural banks," as the proposal would increase the overall percentage of commercial real estate transactions exempt from the appraisal requirements from 17 to 28 percent.
Comments are invited on almost every aspect of the proposed changes, as described in more detail below, and must be received within 60 days after the proposal is published in the Federal Register.
Current standard. Under the current thresholds, established in 1994, all real estate-related financial transactions with a transaction value of $250,000 or less, as well as certain real estate-secured business loans (qualifying business loans) with a transaction value of $1 million or less do not require appraisals. For the exempt properties, financial institutions are still required to obtain evaluations of the real property collateral consistent with safe and sound banking practices. The evaluations should contain sufficient information and analysis to support the financial institution’s decision to engage in the transaction, but need not be performed in accordance with the Uniform Standards of Professional Appraisal Practice (USPAP) or by certified or licensed appraisers.
No proposed increase for the residential real estate threshold. Despite the comments urging otherwise, the agencies determined that it would not be appropriate to increase the $250,000 threshold for transactions secured by residential real estate at this time, for three primary reasons:
- The increase would have a limited impact on the burden imposed on financial institutions, as appraisals would still be required for the majority of these transactions under other government agencies or government-sponsored enterprises.
- Appraisals offer consumer protection through verification that the value of the collateral property supports the purchase price and mortgage amount.
- A threshold increase may pose safety and soundness concerns, as demonstrated by the effects of imprudent residential mortgage lending leading up to the 2008 financial crisis.
The agencies are interested in comments on whether there are other factors that should be considered in evaluating the current threshold for 1-to-4 family residential transactions and whether the threshold can and should be raised, consistent with consumer protection, safety and soundness, and reduction of unnecessary regulatory burden.
Threshold increase for commercial real estate transactions. The proposed Title XI amendments would establish a separate threshold for commercial real estate transactions of $400,000, which represents an increase from the current threshold of $250,000 for all real estate-related financial transactions.
The proposed definition of commercial real estate transaction would include loans to consumers for the initial construction of their dwelling or transactions financing the construction of any building with 1-to-4 dwelling units, so long as the loan does not include permanent financing, allowing these loans to qualify for the higher $400,000 threshold. The agencies invite comment on this proposal, as well as the exclusion of construction-to-permanent loans, to which the $250,000 threshold would still apply.
Extensive analysis of the Call Report, CoStar Comps data, and charge-off rates produced no evidence that increasing the appraisal threshold to $400,000 for commercial real estate transactions would materially increase the risk of loss on such transactions. The agencies invite comment on the safety and soundness impact of the proposed $400,000 threshold, as well as the data sources used in the risk analysis.
Comments are also invited regarding the proposed level of $400,000 (a conservative figure meant to account for price volatility) for the new threshold, as well as the implications of having three Title XI threshold levels as opposed to two.
The proposal, if adopted, would be effective on publication of the final rule in the Federal Register; the agencies invite comment on this effective date as well.
Evaluations for loans below appraisal threshold(s). Evaluations consistent with safe and sound banking practices would still be required in lieu of appraisals for transactions below the new threshold(s). The agencies recognize the cost and time benefit financial institutions may recognize with evaluations and invite comment regarding the extent of these benefits, as well as other factors related to the use of evaluations.
Appraisal threshold for qualifying business loans. The agencies are not proposing an increase to the $1 million business loan threshold at this time, but do invite comment on the following matters related to the qualifying business loan exemption:
- the appropriateness of raising the current $1 million threshold;
- the unique risks institutions associate with qualifying business loans;
- the percentage of total real estate lending at financial institutions comprised of qualified business loans;
- the average size of qualifying business loans and incidences of default compared to other commercial real estate transactions; and
- the clarity of the application of the current threshold and any difficulties financial institutions have experienced in interpreting the limitation on source of repayment.
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