Homeownership: Information on Changes in FHA's New Single-Family
Appraisal Process (Letter Report, 07/25/97, GAO/RCED-97-176).

Pursuant to a congressional request, GAO provided information on the
Federal Housing Administration's (FHA) appraisal process, focusing on:
(1) how appraisals of FHA-insured single-family homes were assigned
before December 1994, who assigned appraisal work, and why the appraisal
assignment process changed; (2) what the reactions to this change have
been from the affected parties--former FHA fee panel appraisers, FHA,
and FHA lenders; and (3) what problems have been identified by the
Department of Housing and Urban Development (HUD) since the
implementation of the new appraisal assignment process. GAO did not
attempt to verify any allegations of the former fee panel appraisers.

GAO noted that: (1) prior to December 1994, houses that were being
appraised for FHA-insured home loans were appraised by FHA fee panel
appraisers who were assigned on a rotational basis to lenders, and, in
turn, lenders paid the fee panel appraisers for their services; (2)
HUD's field offices had approximately 6,000 FHA fee panel appraisers to
conduct the appraisals; (3) legislation was enacted in 1990 that allowed
FHA's single-family lenders rather than FHA to choose the appraisers of
properties whose loans were to be insured by FHA; (4) according to its
history, this legislation was enacted to: (a) improve the efficiency of
FHA lenders who would no longer have to rely on HUD's field office staff
to assign appraisers; and (b) improve the quality and reliability of
appraisal services for HUD's mortgage assistance and other housing
programs by promoting uniform eligibility standards for those performing
federal appraisals; (5) in January 1996, FHA informed its lenders that
effective March 1, 1996, they had to select appraisers from FHA's roster
of about 31,000 state-licensed or certified appraisers; (6) HUD also
allowed lenders to use their in-house appraisers if they were on the
roster and assigned by the lender; (7) those most directly affected by
the change were particularly opposed to the change, charging that the
appraisals now being performed were inaccurate, incomplete, or favorable
to lenders; (8) FHA's appraisal manager and four FHA lenders cited,
among other things, improved timeliness and quality of appraisals and a
decrease in the number of HUD field office staff needed to administer
the appraisal process as the reasons they support allowing lenders to
select appraisers; (9) HUD has identified two problems--the lack of
reviews for completed appraisals by staff in some HUD field offices and
the decline in the number of women and minority appraisers selected by
lenders--since the implementation of the new appraiser selection
process; (10) the private accounting firm hired by HUD to conduct a
financial audit of the agency found that the Los Angeles field office
had not performed any required field reviews of completed appraisals in
fiscal year 1996; (11) in addition, FHA's records show that 6 other HUD
field offices had conducted few or no field reviews of completed
appraisals from October 1, 1996, to June 20, 1997; and (12) HUD is
currently reviewing various strategies aimed at resolving the problem o*

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  RCED-97-176
     TITLE:  Homeownership: Information on Changes in FHA's New 
             Single-Family Appraisal Process
      DATE:  07/25/97
   SUBJECT:  Appraisals
             Fair market value
             Lending institutions
             Mortgage programs
             Human resources utilization
             Women
             Minorities
             Mortgage loans
             Government guaranteed loans
IDENTIFIER:  HUD Computerized Home Underwriting Management System
             
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Cover
================================================================ COVER


Report to the Chairman, Subcommittee on Housing and Community
Opportunity, Committee on Banking and Financial Services, House of
Representatives

July 1997

HOMEOWNERSHIP - INFORMATION ON
CHANGES IN FHA'S NEW SINGLE-FAMILY
APPRAISAL PROCESS

GAO/RCED-97-176

Home Appraisals

(385668)


Abbreviations
=============================================================== ABBREV

  HUD - Department of Housing and Urban Development
  FHA - Federal Housing Admiistration
  FIRREA - Financial Institutions Reform, Recovery, and Enforcement
     Act
  CHUMS - Computer Homes Underwriting Mortgage System
  VA - Department of Veterans Affairs

Letter
=============================================================== LETTER


B-277088

July 25, 1997

The Honorable Rick A.  Lazio
Chairman, Subcommittee on Housing
 and Community Opportunity
Committee on Banking
 and Financial Services
House of Representatives

Dear Mr.  Chairman: 

Since December 1994, private mortgage lenders making single-family
mortgage loans insured through the Department of Housing and Urban
Development's (HUD) Federal Housing Administration (FHA) have been
able to select any licensed or certified appraiser listed on FHA's
roster to determine the value of homes.  Before December 1994,
appraisers (referred to as FHA fee panel appraisers) were assigned to
lenders by FHA to appraise such properties.\1 Appraisals have an
influence on the amount of the mortgage loan, and if a borrower
defaults and the loan is subsequently foreclosed, lenders can recover
losses from FHA, including the unpaid principal balance of the loan. 
According to some former FHA fee panel appraisers, allowing lenders
to select appraisers has resulted in exposing FHA to greater
financial risks because some of the appraisals now being performed
are incomplete, inaccurate, and favorable to the lender. 

Because of these concerns, you requested that we obtain information
on FHA's appraisal process.  Specifically, you asked us to provide
information on (1) how appraisals of FHA-insured single-family homes
were assigned before December 1994, who assigned appraisal work, and
why the appraisal assignment process changed; (2) what the reactions
to this change have been from the affected parties--former FHA fee
panel appraisers, FHA, and FHA lenders; and (3) what problems have
been identified by HUD since the implementation of the new appraisal
assignment process.  As requested by your office, we spoke with 12
former FHA fee panel appraisers to discuss their concerns about the
new process.  However, as agreed with your office, we did not attempt
to verify any allegations of the former fee panel appraisers. 


--------------------
\1 After December 1994, the number of appraisers selected by lenders
began increasing, and by January 1996, most FHA appraisals were being
performed by lender-selected appraisers. 


   RESULTS IN BRIEF
------------------------------------------------------------ Letter :1

Prior to December 1994, houses that were being appraised for
FHA-insured home loans were appraised by FHA fee panel appraisers who
were assigned on a rotational basis to lenders, and, in turn, lenders
paid the fee panel appraisers for their services.\2 HUD's field
offices had approximately 6,000 FHA fee panel appraisers to conduct
the appraisals.  Legislation was enacted in 1990 that allowed FHA's
single-family lenders rather than FHA to choose the appraisers of
properties whose loans were to be insured by FHA.\3 HUD implemented
the legislation in December 1994.  According to its history, this
legislation was enacted to (1) improve the efficiency of FHA lenders
who would no longer have to rely on HUD's field office staff to
assign appraisers and (2) improve the quality and reliability of
appraisal services for HUD's mortgage assistance and other housing
programs by promoting uniform eligibility standards for those
performing federal appraisals.  In January 1996, FHA informed its
lenders that effective March 1, 1996, they had to select appraisers
from FHA's roster of about 31,000 state-licensed or -certified
appraisers.  HUD also allowed lenders to use their in-house
appraisers if they were on the roster and assigned by the lender. 

We found opinions in both opposition and support of allowing FHA
lenders to select appraisers.  Those most directly affected by the
change, such as the 12 former FHA fee panel appraisers, were
particularly opposed to the change, charging that the appraisals now
being performed were inaccurate, incomplete, or favorable to lenders. 
HUD's Office of the Inspector General is reviewing the information
provided by the former FHA fee panel appraisers to determine if an
investigation is warranted.  FHA's appraisal manager and four FHA
lenders cited, among other things, improved timeliness and quality of
appraisals and a decrease in the number of HUD field office staff
needed to administer the appraisal process as the reasons they
support allowing lenders to select appraisers.\4

The appraisal manager also said that factors such as unprofessional
conduct by some prior fee panel appraisers, fewer FHA properties
needing appraisals, and an increase in the number of appraisers on
FHA's roster as the reasons for the decrease in lenders' hiring of
former fee panel appraisers. 

HUD has identified two problems--the lack of reviews for completed
appraisals by staff in some HUD field offices and the decline in the
number of women and minority appraisers selected by lenders--since
the implementation of the new appraiser selection process.  The lack
of appraisal review surfaced when a private accounting firm hired by
HUD to conduct a financial audit of the agency reviewed HUD's Los
Angeles field office's appraisal process as part of that audit.  We
also reported on similar problems with reviews of completed
appraisals by HUD's Los Angeles field office in February 1991.\5

The accounting firm found that the Los Angeles field office had not
performed any required field reviews of completed appraisals in
fiscal year 1996.  The purpose of appraisal reviews is to, among
other things, verify the accuracy and reasonableness of the
appraisers' property valuations; rate appraisers; and ensure that
appraisals comply with administrative, statutory, and regulatory
requirements.  FHA's appraisal manager agreed with the finding and
cited a lack of staff to perform the reviews as the cause of the
problem.  In December 1996, the manager indicated to the accounting
firm that FHA was looking into the possibility of contracting out the
review function.  In addition, FHA's records show that 6 other HUD
field offices among its 81 offices had conducted few or no field
reviews of completed appraisals from October 1, 1996, to June 20,
1997.  In June 1997, FHA officials told us that while agency
instructions require field offices to conduct some field and desk
reviews of completed appraisals, the agency no longer requires that a
specific percentage of the appraisals be reviewed by field offices. 

The other problem identified by HUD since the implementation of the
new appraisal process is that women and minority appraisers are not
being selected to perform a proportionate number of FHA appraisals. 
In response to this problem, HUD's Assistant Secretary for
Housing-Federal Housing Commissioner in a July 1996 letter to FHA
lenders requested that they review their appraiser assignment process
to ensure that women and minority appraisers receive a fair share of
the appraisal assignments commensurate with their representation on
the appraisers' roster.  HUD is currently reviewing various
strategies aimed at resolving this problem. 


--------------------
\2 FHA's policy at that time also allowed in-house appraisers
employed by lenders to conduct appraisals.  However, most appraisals
made before December 1994 were conducted by fee panel appraisers. 

\3 Section 322 of the Cranston-Gonzalez National Affordable Housing
Act, 1990, amended section 202(e) of the National Housing Act,
allowing lenders to choose the appraisers of property to be insured
by FHA. 

\4 The four FHA lenders we contacted are among the largest FHA loan
originators in California, Colorado, Virginia, and Maryland. 

\5 Federal Housing Administration:  Monitoring of Single-Family
Mortgages Need Improvement (GAO/RCED-91-11, Feb.  7, 1991). 


   BACKGROUND
------------------------------------------------------------ Letter :2

The National Housing Act (12 U.S.C.  1709) authorizes FHA to insure
mortgage loans made by private lending institutions to buyers of
single-family homes.  The amount that FHA can insure is based, in
part, on the appraised value of the home.  The maximum loan amount
permitted under FHA's program for single-family homes in the
highest-cost areas of the continental United States is currently set
at $160,950.  If a borrower with an FHA-insured mortgage loan
defaults, the lender may foreclose on the loan and collect nearly all
of the losses from FHA.\6 Losses generally include the unpaid
principal balance of the loan, delinquent interest due on the loan,
and legal expenses incurred during foreclosure. 

In 1983, FHA implemented the Direct Endorsement Program, which
authorized FHA-approved lenders to underwrite loans without FHA's
prior approval.  HUD authorizes a direct endorsement lender to
execute all phases of an FHA mortgage.  Almost all of FHA's
single-family mortgages today are provided by direct endorsement
lenders.  Underwriting usually includes determining the borrower's
ability to repay the loan and performing appraisals, which establish
the value of the property to be mortgaged. 

Prior to December 1994, FHA did not require fee panel appraisers to
be licensed by states.  However, to perform FHA appraisals, fee panel
appraisers had to meet certain requirements established by FHA
concerning their general and specialized experience and attend FHA
training courses.  In 1989, the Financial Institutions Reform,
Recovery, and Enforcement Act (FIRREA) was enacted, which, among
other things, required appraisals performed for federally related
real estate transactions to be done by individuals licensed or
certified by the state in which they work.  This law was in response
to a concern in the Congress that poorly conducted or fraudulent
appraisals by unlicensed appraisers played a major role in the
weakening and collapse of some financial institutions in the 1980s. 
In addition, the Department of Housing and Urban Development Reform
Act of 1989 required that the appraisal of all properties securing an
FHA-insured mortgage be performed in accordance with generally
accepted appraisal standards and be prepared by a licensed or
certified appraiser.  Since the states implementation of licensing
and certification procedures took until 1994 to complete, FHA did not
mandate that appraisers be licensed or certified until December 1994. 


--------------------
\6 FHA does not allow lenders to recover one-third of their
administrative costs and 2 months' delinquent interest. 


   RECENT CHANGE TO FHA'S
   APPRAISER SELECTION PROCESS AND
   THE REASONS FOR THE CHANGE
------------------------------------------------------------ Letter :3

Before December 1994, appraisals for FHA-insured homes were conducted
almost exclusively by approximately 6,000 fee panel appraisers.  Each
of a lender's loans was assigned on a rotational basis to an
appraiser from the fee panel maintained by HUD's field office staff. 
Collectively, the fee panel appraisers conducted about 500,000 to
750,000 FHA appraisals each year, usually at a cost commensurate with
the market rate for private appraisals in the area.  FHA did not pay
the fee panel appraisers; rather, lenders paid the appraisers and
charged the cost to the borrowers. 

After completing an appraisal, the fee panel appraiser then submitted
the results to the lender and the appropriate HUD field office. 
HUD's field offices were required to review 10 percent of all
completed appraisals, including 5 percent of each appraiser's work
for mathematical accuracy, reasonableness, logical conclusions, and
the adequacy of any adjustments made in determining the appraised
value.  The results of those reviews were to be used to rate the
appraiser's work and identify appraisers who were not adhering to
FHA's appraisal guidelines.  If an appraiser received at least three
"poor" ratings in a 12-month period from the field office for
poor-quality work, FHA could remove the appraiser from the panel. 
According to an FHA official, the cumbersome and time-consuming
administrative requirements needed to remove appraisers from
performing FHA appraisals resulted in few being removed . 

In 1990, legislation was enacted allowing FHA single-family direct
endorsement lenders rather than FHA to choose state-licensed or
-certified appraisers of properties secured by FHA-insured mortgages. 
HUD drafted regulations calling for lenders' selection of appraisers
while waiting for all 50 states to complete licensing and
certification standards for appraisers, as required by FIRREA.  In
its draft regulations issued on September 16, 1993, HUD specifically
requested opinions from the public on this issue.  In the final
regulations published on October 3, 1994, HUD noted that the law
precluded the agency from denying FHA lenders the right to choose
appraisers and that responses to the lenders' selection of appraisers
were fairly well balanced between support and opposition to the
practice.  In addition, the regulations continued to allow direct
endorsement lenders the right to use in-house appraisers for FHA
appraisals.  HUD's final regulations were effective December 2, 1994. 

FHA established a roster of appraisers from which FHA lenders could
select.  Between December 1994 and January 1996, FHA approved about
37,000 state-licensed or -certified appraisers nationwide for the
roster, including many former FHA fee panel appraisers.  During that
time, FHA lenders used fee panel appraisers and appraisers selected
or employed by lenders to perform FHA appraisals.  In January 1996,
the FHA Commissioner, noting that the vast majority of appraisals
were being performed by lender-selected appraisers, directed all FHA
lenders that effective March 1, 1996, FHA appraisals had to be
performed by appraisers selected from the new roster.  In addition,
FHA allowed lenders to continue to use appraisers who worked
exclusively for them if they were listed on the roster and chosen by
the lenders for each case. 

There were various reasons why the change to lenders' selection of
appraisers was made.  The conference report on the legislation
proposing FHA lenders' selection of appraisers states that the
conferees believed the legislation would improve the efficiency of
FHA lenders because they would no longer have to rely on HUD's field
office staff to assign appraisers.  The conferees believe it would
also improve the quality and reliability of appraisal services for
HUD mortgage assistance and other housing programs by promoting
uniform eligibility standards for those performing federal
appraisals. 

In addition, according to FHA's appraisal manager, other reasons
contributed to the change in the method used to select FHA
appraisers.  First, the number of staff in HUD's field offices had
been reduced and the remaining staff had difficulty assigning,
maintaining, and monitoring the fee panel appraisers.  FHA believed
that devolving this responsibility to lenders freed its field office
staff to perform other duties.  Second, FHA wanted to privatize some
of its functions, and since lenders were already adept at selecting
appraisers for their conventional home loans, transferring the
responsibility of selecting FHA appraisers to them seemed reasonable. 
Third, according to FHA's appraisal manager, some lenders complained
to HUD and Members of Congress about the personal and professional
conduct of some fee panel appraisers assigned by FHA's field offices. 
The appraisal manager told us that FHA and its lenders believed that
some fee panel appraisers acted unprofessionally because once
approved as FHA appraisers, they were guaranteed work from FHA and
did not have to market themselves to lenders or compete with other
fee panel appraisers for work. 


   VIEWS OF FORMER FEE PANEL
   APPRAISERS ON LENDERS'
   SELECTION DIFFERS FROM THOSE OF
   FHA AND ITS LENDERS
------------------------------------------------------------ Letter :4

The 12 former FHA fee panel appraisers that we spoke with were
strongly opposed to allowing FHA lenders to select appraisers because
they believe that some of the appraisals now being performed are
incomplete, inaccurate, and favorable to lenders.  However, FHA and
the four lending officials we contacted believe that lenders'
selection has been beneficial to them by improving the timeliness and
overall quality of FHA appraisals and by eliminating a burdensome
administrative task from HUD's field office staff. 


      FORMER FHA FEE PANEL
      APPRAISERS ALLEGE THAT FHA
      LENDERS ARE SELECTING
      APPRAISERS WHO PROVIDE
      INACCURATE OR INCORRECT
      VALUATIONS
---------------------------------------------------------- Letter :4.1

The 12 former FHA fee panel appraisers from Ohio, New Jersey,
Michigan, Texas, and the District of Columbia that we spoke with
allege that some FHA lenders are selecting appraisers who are not
accurately reporting the value and physical condition of the homes
they assess.  According to the former fee panel appraisers, they and
their colleagues were told by FHA lenders that as a condition of
employment, they will have to provide property valuations specified
by the lenders or ignore defective conditions in the properties.  The
former fee panel appraisers believe that if left uncorrected this
situation will result in increased financial risk to FHA if borrowers
default on their mortgage loans.  They also believe that with
inaccurate reporting on the physical condition of homes, borrowers
will not know the extent and cost of needed home repairs.  The former
fee panel appraisers wrote to HUD and Members of Congress with their
concerns in 1996 and 1997, and, in response, HUD requested that they
provide the information on wrongdoing between FHA lenders and
appraisers to the agency.  HUD's Office of the Inspector General is
reviewing the information provided by the former FHA fee panel
appraisers to determine if an investigation is warranted. 

The former fee panel appraisers also noted that some of the new
appraisers on FHA's roster are providing incorrect or inaccurate
property valuations because they are not familiar with FHA's minimum
standards for appraising properties.  The former fee panel appraisers
told us that prior to the lenders' selection of appraisers, fee panel
appraisers were required to attend at least four FHA-sponsored
training sessions a year.  However, new applicants for the roster are
required only to read FHA's procedures on appraisals and sign a
document stipulating they have read the information before being
listed on the roster.  The former FHA fee panel appraisers told us
they want the Congress to repeal the 1990 law, which allows FHA
lenders to select appraisers and return to a system in which FHA
would rotationally select a limited number of appraisers. 

In addition, the former fee panel appraisers, many of whom also
perform appraisals for home loans guaranteed by the Department of
Veterans Affairs (VA), expressed concern that legislation will be
changed to allow VA lenders the right to choose appraisers and that
this change will lead to the same abuses and problems they claim to
have observed in FHA's appraiser selection process.  Currently,
legislation requires VA's appraisers to be rotationally assigned to
lenders by VA's field office staff.  (See app.  I for a discussion of
VA's appraisal process.)


      FHA SUPPORTS LENDERS'
      SELECTION OF APPRAISERS
---------------------------------------------------------- Letter :4.2

FHA's appraisal manager stated that FHA supports allowing lenders to
select appraisers for homes purchased with FHA-insured loans,
reiterating the reasons he provided on why the legislative change was
made.  Namely, he believes that lenders' selection has simplified and
quickened FHA appraisals because lenders no longer have to contact a
HUD field office to obtain an appraiser each time an appraisal is
needed.  According to the appraisal manager, consumers benefit from
the new appraiser selection process by having appraisals performed
faster, which will allow closing to occur sooner.  Also, lenders'
selection has eliminated the need for understaffed field offices to
manage the fee panel appraisers, allowed FHA to privatize one of its
processes, and resolved the problem of some fee appraisers' behavior. 

The appraisal manager said that he is not surprised that some former
FHA fee panel appraisers are not receiving the volume of appraisals
they once did, but he doubted the reason was wrongdoing by lenders
and appraisers, as claimed by the former fee appraisers.  Rather, the
manager attributed the decrease in appraisal work to a general
decline in lenders' need for their services and the large group of
appraisers from which lenders can now select.  For instance, the
official said that the number of home loans being insured by FHA that
required appraisals decreased from about 765,000 in 1994 to
approximately 577,000 in 1995, while the number of appraisers
eligible to perform FHA appraisals increased from about 6,000 to
about 31,000.  In addition, the appraiser manager said that FHA
always informs buyers that the appraisal is not an inspection.  In
fact, FHA mandates that borrowers be given notice of "Importance of
Home Inspections," which must be signed by borrowers on or before the
date of the sales contract. 

In commenting on this report, the FHA Commissioner stated that
although some former fee panel appraisers have alleged that some
appraisers have performed poorly, either by design or due to a lack
of skills and understanding of HUD's procedures, no statistical or
other basis exists for concluding that the appraisal system is
flawed. 


      FHA LENDERS LIKE BEING ABLE
      TO SELECT APPRAISERS
---------------------------------------------------------- Letter :4.3

The officials we contacted at four of the largest (in terms of
lending activity) FHA lenders in California, Colorado, Virginia, and
Maryland indicated that being able to select appraisers reduces the
amount of time it takes to obtain an appraisal because they no longer
have to wait until an appraiser is assigned to them by HUD's field
offices.  In addition, the lenders told us that the quality of the
appraisal work performed by the former fee panel appraisers varied
and that being able to select appraisers for FHA cases generally
ensures more professional results than if appraisers are assigned to
them. 


   PROBLEMS IDENTIFIED BY HUD
   SINCE THE IMPLEMENTATION OF THE
   NEW APPRAISER SELECTION PROCESS
------------------------------------------------------------ Letter :5

HUD has identified two problems since the implementation of the new
appraiser selection process.  A review of FHA's appraisal operations
by a private firm hired by HUD found that a HUD field office was not
implementing required internal control procedures over the quality of
appraisals made in its jurisdiction.  In addition, FHA's internal
review of information received from FHA lenders showed that women and
minority appraisers are not obtaining work assignments from lenders
under the new selection process in the same proportion they did when
FHA assigned appraisers. 


      PROBLEMS WITH FIELD REVIEWS
      OF APPRAISALS IN SOME HUD
      FIELD OFFICES
---------------------------------------------------------- Letter :5.1

A 1996 audit of HUD's Los Angeles field office by the firm of KMPG
Peat Marwick under a contract with HUD found that the office had not
conducted any field reviews of completed appraisals during fiscal
year 1996.  HUD usually requires an on-site review of its processes
and procedures at least at 1 of its 81 field offices as part of the
annual financial audit of the agency.  Field office reviews of
completed appraisals are essential to ensure that appraisals comply
with statutory, regulatory, and administrative requirements.  The
results of such reviews are used by FHA to rate appraisers and
identify FHA lenders with deficient appraisal practices that warrant
close monitoring.  In response to the audit finding, field office
management cited insufficient staff to perform the reviews and
monitor lenders.  FHA's appraisal manager indicated in December 1996
that the FHA field office might contract out for the appraisal review
function.  In addition, FHA's records showed that six other HUD field
offices conducted few or no field reviews of completed appraisals
during the period October 1, 1996, to June 20, 1997 (four offices
reviewed 1 percent or fewer of the completed appraisals, and two
offices performed no reviews). 

However, in June 1997, FHA officials told us that while agency
instructions require field offices to conduct some field and desk
reviews of completed appraisals, the agency no longer requires that a
fixed percentage of the appraisals made be reviewed by field offices. 
In addition, according to the appraisal manager, few HUD field
offices require a percentage of completed appraisals to be reviewed,
but the majority of field offices do review some percentage of the
appraisals made.  Although field reviews of completed appraisals were
not conducted by all HUD's field offices, FHA's records showed that
all of the field offices conducted desk reviews of some completed
appraisals.\7 It should be noted that this problem is not a result of
lenders' selection of appraisers. 

In the past, we reported a similar problem involving HUD's review of
completed appraisals in its Los Angeles field office.  In our
February 1991 report on the agency's monitoring of single-family
mortgages, we reported that HUD's Los Angeles field office lacked
documentation of supervisory desk reviews of appraisals for either
FHA-processed loans or direct endorsement loans.  In response to our
audit findings, HUD acknowledged that the failure of field offices to
document their actions limits the agency's ability to track
performance or evaluate program monitoring, and indicated that it was
committed to more effective documentation of monitoring compliance. 
HUD indicated that the Los Angeles field office would develop logs to
document and track the results of future reviews, and the office has
done so. 


--------------------
\7 Desk reviews are performed by HUD staff who check that appraisals
submitted to the field office are properly performed and accurately
reflect the value of the house. 


      WOMEN AND MINORITY
      APPRAISERS ARE NOT BEING
      PROPORTIONATELY SELECTED BY
      FHA LENDERS
---------------------------------------------------------- Letter :5.2

Comments received by HUD on its draft regulations on FHA lender
selection of appraisers included concerns that women and minority
appraisers would obtain significantly fewer appraisal assignments
from FHA lenders than they did when FHA selected appraisers.  HUD
responded to this concern in a November 1994 letter to all FHA
lenders, which stated that the agency expected that lenders would
affirmatively select appraisers from these two groups for a fair
share of appraisals. 

HUD uses a specially designed computer system called Computer Homes
Underwriting Mortgage System (CHUMS) to collect descriptive data of
FHA-approved appraisers, such as their state license or certification
number, sex, and racial background to monitor lenders' selections. 
In mid-1996, HUD conducted an analysis of the lender and appraiser
information in CHUMS after receiving complaints that women and
minority appraisers were not being selected by some lenders.  HUD's
analysis showed that the shares of FHA's appraisal work going to
women and minorities were not in proportion with their representation
on FHA's roster of appraisers since lenders' selection was mandated
by HUD.  In response, the FHA Commissioner, in a July 1996 letter to
all FHA lenders, requested that they review their appraiser
assignment process to ensure that women and minority appraisers be
given a fair share of appraisal assignments commensurate with their
representation on FHA's roster.  The Commissioner also offered to
assist FHA lenders in identifying women and minority appraisers on
the roster who can be selected for appraisal work and indicated that
HUD will continue to use CHUMS to monitor lenders' choice of
appraisers and the sex and race of appraisers who are chosen. 

In commenting on a draft of this report, the FHA Commissioner stated
that in addition to the actions already taken to eliminate this
problem, FHA is working to develop additional means by which to
remedy the problem.  In addition to increasing lenders' awareness and
sensitivity to the matter, HUD plans to refine its computer tracking
system to provide data on a local rather than national basis.  This
action will allow HUD to focus its attention on specific problem
areas, even if the problem is not apparent on the national level. 


   CONCLUSIONS
------------------------------------------------------------ Letter :6

While current procedures that require state licensing and
certification of appraisers and lender quality assurance programs may
help reduce financial risks to FHA, verification of appraisers'
valuations of properties would help to protect against fraud, waste,
and mismanagement.  Although FHA requires field offices to perform
field and desk reviews, a key control over the quality of appraisals
made on properties it insures--requiring a stated percentage of field
and desk reviews of some completed appraisals--was eliminated because
of staffing reductions.  As a result, while most HUD field offices
have conducted some field reviews of completed appraisals, others
have conducted few or no reviews.  In the absence of an agency
mandate to review a specific percentage of completed appraisals,
there is no assurance that appraisals comply with statutory,
regulatory, and administrative requirements.  Also, no assurance
exists that FHA can monitor the quality of appraisers and identify
FHA lenders with deficient appraisal practices. 


   RECOMMENDATIONS TO THE
   SECRETARY OF HUD
------------------------------------------------------------ Letter :7

To reduce the financial risks assumed by FHA, we recommend that the
Secretary of HUD reestablish a requirement that each HUD field office
responsible for overseeing appraisals randomly select a specific
percentage of completed FHA appraisals for field and desk review by
either HUD staff or a licensed or certified appraiser who is not a
member of FHA's roster of appraisers for lenders' selection.  In
addition, we recommend that the Secretary of HUD establish a process
to ensure that such field offices meet this appraisal review
requirement. 


   AGENCY COMMENTS
------------------------------------------------------------ Letter :8

We provided HUD and VA with a draft of this report for their review
and comment.  We received written comments on the draft report from
HUD.  (See app.  II.) In addition, VA's Assistant Director for
Construction and Valuation provided us with changes that clarified
information contained in the report, which we incorporated. 

HUD concurred with our recommendation that each HUD field office
responsible for overseeing appraisals randomly select a specific
percentage of field appraisals for field and desk review.  HUD stated
that in fiscal year 1998, its field offices will be required to
perform field and desk reviews on no less than 10 percent of the
mortgage loans underwritten within their jurisdictions.  With regard
to field reviews, HUD noted that they may be conducted by HUD staff
or by qualified appraisers working for FHA on a contractual basis and
that appraisers under contract with HUD are ineligible to perform
appraisals for FHA lenders.  HUD did not comment on our
recommendation that it establish a process to ensure that each field
office meet the appraisal review requirement. 

HUD pointed out that its latest report shows that during the period
October 1, 1996, to June 20, 1997, 7.8 percent of all appraisals made
were field reviewed, and all such reviews were made within 45 days of
the completion of the appraisals.  HUD also pointed out that during
the same period, all HUD field offices had performed some desk
reviews of completed appraisals.  In total, 9.3 percent of all
appraisals performed were desk reviewed, and on a rating system of 1
to 5, appraisers received an overall performance rating of 4.59. 

On the basis of the scope and extent of the above field office
activities and the overall performance ratings achieved by lenders,
to date, HUD stated it was satisfied that no significant problems
exist with the appraisal process.  Also, the experience of its Los
Angeles field office is clearly the exception and not the norm,
according to HUD.  HUD stated that nevertheless, FHA has decided to
enhance its current appraisal review process in fiscal year 1998 in
line with our recommendation that its field offices randomly select a
specific percentage of field appraisals to be field and desk
reviewed. 

Regarding HUD's comment that the experience of its Los Angeles field
office is clearly the exception and not the norm, it should be noted
that other HUD field offices performed few or no field reviews of
completed appraisals.  As discussed in our report, two other HUD
field offices in addition to the Los Angeles office had not performed
any field reviews of completed appraisals in fiscal year 1997 as of
June 20, 1997, and four other offices reviewed 1 percent or fewer of
the completed appraisals. 

HUD also stated that under the current appraisal system, lenders, in
making their own selections, have not selected women and minority
appraisers in sufficient numbers.  In addition to the corrective
actions outlined in our report, HUD pointed out that it was
developing additional means by which to remedy the problem.  The
additional actions being taken by HUD have been incorporated in the
report. 


   SCOPE AND METHODOLOGY
------------------------------------------------------------ Letter :9

To describe FHA's appraisal process and the reasons why it was
changed, we reviewed legislation, including the National Housing Act;
the Financial Institutions Reform, Recovery, and Enforcement Act of
1989; and the Cranston-Gonzalez National Affordable Housing Act.  We
also reviewed FHA's appraisal-related policies, procedures, and
memorandums on agency requirements; reviewed the goals and guidelines
for FHA lenders, appraisers, and appraisals; and interviewed HUD and
VA officials who are responsible for each agency's appraisal
policies. 

As requested by your office, we contacted 12 former FHA fee panel
appraisers who raised complaints to obtain their reactions to FHA
lenders' selection of appraisers.  We also contacted FHA headquarters
officials; four FHA lenders--three of whom are among the largest FHA
lenders in their states and the other who is the largest FHA lender
nationwide; and a headquarter's official with the Department of
Veterans Affairs.  In addition, we examined trade association
literature and other industry documents related to this issue.  We
did not attempt to verify the claims made by the former fee panel
appraisers. 

Our information on the problems identified by HUD since the
implementation of the new appraiser selection process was obtained
through interviews with FHA officials in charge of the process and
the manager of HUD's financial audit and by reviewing KMPG Peat
Marwick's report of audit findings for HUD's Los Angeles field office
and prior reports of our office.  We performed our work from December
1996 through June 1997 in accordance with generally accepted
government auditing standards. 


---------------------------------------------------------- Letter :9.1

Please call me at (202) 512-7631, if you or your staff have any
questions.  Major contributors to this report were Robert S. 
Procaccini and Phillis Riley. 

Sincerely yours,

Judy A.  England-Joseph
Director, Housing and Community
 Development Issues


THE DEPARTMENT OF VETERANS
AFFAIRS' APPRAISAL PROCESS
=========================================================== Appendix I

The Department of Veterans Affairs (VA) provides assistance to
qualified veterans, their families, and certain active duty military
personnel by partially guaranteeing mortgage lenders against
financial loss if a loan is foreclosed.  VA is required by law (38
U.S.C.  section 3731) to rotationally select and assign an appraiser
from a list of VA-approved appraisers to perform an appraisal of a
property for a lender whose borrower is seeking a VA loan.  Prior to
December 1994, both FHA and VA assigned fee appraisers to lenders
and, under a reciprocity agreement, accepted each other's valuation
of the same property to reduce paperwork, simplify the appraisal
process, and avoid duplication of effort.  When FHA implemented
regulations that terminated FHA's assignment of fee appraisers, VA
could no longer legally use appraisals prepared by FHA
lender-selected appraisers. 

According to a VA official in charge of appraisals, some lenders and
other program participants have complained to the agency and Members
of the Congress about the loss in reciprocity of value determinations
and the expense and time it takes to have both a VA and FHA appraisal
performed on the same property.  Also, VA lenders want the Congress
to repeal VA's legislation to remove the rotational assignment
constraint, which would then allow VA to give lenders the same choice
now permitted to FHA lenders.  The official also said that some VA
appraisers do not want the law changed to allow lenders' selection
because they believe the problems alleged by former FHA appraisers
with FHA's new appraisal process will occur for VA home loans.  The
VA official pointed out that legislation to change VA's appraiser
selection process has not been introduced and that VA did not have an
official position on this issue as of June 1997. 




(See figure in printed edition.)Appendix II
COMMENTS FROM THE DEPARTMENT OF
HOUSING AND URBAN DEVELOPMENT
=========================================================== Appendix I



(See figure in printed edition.)



(See figure in printed edition.)


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