One year ago, we offered 11 Predictions for AMC Liability Risks in 2011. Being at the end of the year, it’s time for self-assessment. How did we do on our predictions? It’s important because when we do a good job at our company (LIA Administrators & Insurance Services) in understanding where future liability risk will exist and in sharing that knowledge with our insurance clients, then we and our clients are better able to cover that risk with appropriate insurance or other risk mitigation. How does your insurance broker do?
Please keep in mind that predicting the risk of a liability event is not the same thing as predicting whether the event will actually occur. However, this assessment is based on whether the liability events actually did occur. Using that standard, my grade for our performance in the predictions is an “A-,” a good grade that I feel is deserved for the particular accuracy of our FDIC prediction.
Here is my assessment of how we did on each prediction that we made December 21, 2010 about AMC liability risks in 2011:
- “Several AMCs will be sued by the FDIC.” We did well on this prediction. Two AMCs were, in fact, sued by the FDIC on May 9, 2011 for more than $100 million each. A third AMC’s appraisals have become the subject of another FDIC action, but the AMC is not named as a defendant.
- “AMCs sued by the FDIC will discover that their professional liability policies are not sufficient or exclude claims by the FDIC.“ I’ll give us this one. While I cannot verify this prediction with 100% confidence, I strongly suspect that the professional liability policies maintained by the two AMCs sued by the FDIC are not sufficient to cover the claims against them and/or are being depleted by other litigation affecting the companies. It’s also possible that no coverage currently exists under those policies because of the nature of the claims. In general, about 50% of the professional liability policies I see for AMCs exclude FDIC and other regulatory agency claims. AMCs are also generally under-insured (most do not carry any more insurance than an individual appraiser) or not insured at all for AMC services.
- “A few AMCs will endure liability aftershocks relating to actual or threatened litigation by the purchasers of mortgage backed securities.” We did miss on this prediction. To my knowledge, no AMC was named as a defendant in any MBS litigation in 2011. I also don’t know of any indemnification lawsuits against AMCs by lenders defending MBS investor claims. However, several AMCs are referenced in MBS litigation against originating lenders, including in some of the 17 cases filed in September by the Federal Housing Finance Agency in relation to loans purchased by FannieMae and FreddieMac. It appears that AMCs may avoid being dragged in as defendants to that mess.
- “More AMCs will be named as defendants in lawsuits filed by borrowers and lenders alleging claims about poor quality appraisals.” This prediction came true.
- “We will see a few lenders sue AMCs to enforce appraisal ‘warranties’ which obligate the AMCs to pay losses and costs for mortgage repurchases and other losses blamed on faulty appraisals.” I think we did well on this prediction but our success is partly based on a legal technicality. The FDIC is standing in the shoes of failed lender Washington Mutual and, in that capacity as the receiver for WaMu, it is suing two AMCs for breach of the appraisal warranties given by those AMCs. Apart from that, I also do know of smaller claims by lenders against AMCs relating to appraisal warranties. (It’s worthwhile noting that the representations and warranties that many AMCs are presently offering in order to win appraisal work from lenders are placing the AMCs at much greater risk in the future — basically, some AMCs will sign anything to get a lender’s work, worry about the liability later, and view the potential liability shield provided by incorporation as their “insurance.”)
- “Some AMCs will face liability because they do not understand current appraiser E&O issues.” We were correct on this one. To give one example, this year, I observed an AMC sued by a borrower because the AMC basically pushed the borrower’s claim into the lap of the appraiser — the appraiser never responded, soon left the business and no longer maintained E&O. The result was that the AMC became a defendant. Also, we’ve observed that most AMCs remain clueless that some of their panel appraisers are replacing their E&O insurance with “cheap” and “no frills” policies that do not provide claims coverage for their prior work (i.e., no “prior acts” coverage). These cheap policies are being marketed to appraisers based on the theme that AMCs and “lenders do not require prior acts.”
- “More AMCs will realize why it’s a bad idea to require their panel appraisers to attach E&O declarations pages to appraisal reports.” I have to say we failed on this prediction. I still see the same AMCs continuing to demand that appraisers attach their E&O declarations pages to appraisal reports, even though it incrementally increases the likelihood of an appraisal-related claim from a borrower against not only the appraiser but also the AMC itself.
- “More AMCs will seek to enforce appraisers’ contractual agreements to indemnify the AMCs for claims by borrowers and lenders pursuant to the indemnification clauses in contractor agreements.” It’s still very, very rare that AMCs actually sue or threaten to sue appraisers to indemnify the AMCs for appraisal-related claims, but we did see “more,” as in two, AMCs do it in 2011.
- “We will see a few national AMCs penalized by state regulators.” This one was the easiest prediction because of the new AMC laws. We were correct in the prediction, but admittedly most regulators have been pretty slow moving in their supervision of AMCs. The most common discipline against AMCs relates to untimely or non-payment of fees to appraisers in those states that included provisions relating to payment in their AMC laws.
- “Dodd-Frank’s mandatory reporting of USPAP violations will create a dilemma for some AMCs.” I’m not sure how to grade our performance on this one. The prediction was more specifically that AMCs would face a “dilemma” in choosing what to do in response to their new TILA-based duty under Dodd-Frank to report appraisers to state regulators when there is a reasonable basis to believe a USPAP violation has occurred — the presumed dilemma being that it would mean turning in their own panel appraisers, which amounts to an admission that the appraisal delivered by the AMC was deficient and that the appraiser selected by the AMC may not have been well-qualified for the assignment. Maybe it wasn’t actually much of a dilemma for the AMCs, however, because most seemed to make the same choice very quickly. It is exceedingly rare for any AMCs to ever report alleged USPAP violations relating to appraisals currently or recently in the loan origination pipeline.
- “Specific Litigation Predictions for 2011 (No New News Here).” We predicted specifically that “the FDIC will continue to be the single biggest source of appraisal-related claims; borrowers will continue to file more claims than lenders; First American CoreLogic will continue to be a very aggressive, but mostly unsuccessful, litigant against competing companies; and Florida, Arizona and North Carolina will continue to be the riskiest states for appraisal-related claims.” We more or less passed on these things. The FDIC is turning out to be worse than ever anticipated for appraisers and the FDIC has sued more appraisers than any other group of professionals. CoreLogic is continuing to sue and be sued by competing companies. And, Florida, Arizona and North Carolina are among the riskiest states for appraisal-related claims, with additional states in that group being California, Nevada, and South Carolina.
Tuesday, December 21, 2010
We are looking forward to another challenging year in the business of insuring and defending claims in the appraisal industry. Based on recently filed cases, threatened litigation and emerging issues, these are LIA Administrators & Insurance Services’ predictions for the biggest liability risks that we expect for appraisal management companies in 2011:
- Several AMCs will be sued by the FDIC. Hundreds of appraisers are currently involved in lawsuits or threatened with litigation by the FDIC relating to appraisals performed for failed lenders, principally for loans made from 2005 to early 2008. Attorneys for the FDIC are presently evaluating claims against AMCs which delivered appraisals during that time period. This threat will last well beyond 2011 because, under federal law per the FDIC’s interpretation, the statutes of limitation for its claims as receiver of a failed financial institution are extended by 3 years for tort claims and 6 years for contract claims, running from the date of its appointment as receiver.
- AMCs sued by the FDIC will discover that their professional liability policies are not sufficient or exclude claims by the FDIC. A large number of AMCs shop for the cheapest “E&O ticket” without any evaluation of coverage or exclusions, and many AMCs carry limits that are inadequate given the volume of transactions they handle. There is also a strong likelihood that an AMC sued by the FDIC will discover that its professional liability policy contains a “regulatory exclusion” that may exclude coverage for an FDIC claim.
- A few AMCs will endure liability aftershocks relating to actual or threatened litigation by the purchasers of mortgage backed securities. MBS litigation against mortgage originators recently has become more organized and better handled by more knowledgeable law firms. The liability threat to AMCs is twofold: direct claims against AMCs by MBS investors and indemnification claims by lenders defending MBS investor claims. This risk mostly affects AMCs which delivered appraisals between 2004 and early 2008 and will more likely affect the largest AMCs, but would quickly exhaust the insurance limits of or kill any smaller AMCs dragged into the litigation. Because this liability exposure has started very late in the day (years after the mortgage originations), however, we think the risk of new MBS-related cases will subside late in 2011.
- More AMCs will be named as defendants in lawsuits filed by borrowers and lenders alleging claims about poor quality appraisals. We have noticed a distinct trend that more AMCs are being named by borrowers in lawsuits which allege straightforward negligence or negligent misrepresentation in appraisals — in other words, the garden variety consumer cases we see against individual appraisers. This trend will continue to swell in 2011 and AMCs will find themselves involved in lawsuits that normally only would have named individual appraisers. There are a handful of reasons for this: (a) AMCs are more visible to borrowers and plaintiffs’ attorneys and manage a far greater proportion of residential appraisal work than pre-May 2009; (b) appraisers doing very low fee work are more likely to produce appraisals with quality issues and also more likely to leave the business (and drop their insurance coverage) leading to increased exposure of the AMC; (c) the line between appraising and appraisal management — and their related liability — has blurred; (d) some state AMC laws provide a basis for arguing that new duties and standards of care apply to AMCs; and (e) the AMC bonds required in some states will be an incentive for some borrowers to make claims.
- We will see a few lenders sue AMCs to enforce appraisal “warranties” which obligate the AMCs to pay losses and costs for mortgage repurchases and other losses blamed on faulty appraisals. If the AMC did not properly evaluate the wording of any representations and warranties given in recently drafted lender contracts, the AMC may find itself liable for liabilities relating to appraisals delivered long ago. In some cases, the liabilities assumed by AMCs are well beyond their financial resources.
- Some AMCs will face liability because they do not understand current appraiser E&O issues. As lender claims against appraisers continue at record levels in 2011, AMCs will more often discover in 2011 that their panel appraisers no longer have E&O covering the appraisals in question because the appraisers have left the business or obtained new insurance purchased at cheaper rates without coverage for their prior work (i.e., no “prior acts” coverage). These cheap policies are being marketed to appraisers based on the theme that “AMCs and lenders don’t look at appraisers’ prior acts coverage” or “lenders do not require prior acts.” Some lenders making claims will hold the AMCs responsible for the losses because of contractual representations made by the AMCs.
- More AMCs will realize why it’s a bad idea to require their panel appraisers to attach E&O declarations pages to appraisal reports. It seems like common sense that having an E&O declarations page attached to an appraisal report incrementally increases the likelihood of an appraisal-related claim from a third party such as a borrower. Yet, many AMCs require it. We’ve seen firsthand, however, instances of AMCs themselves being dragged into legal claims as a result of having the appraiser’s insurance information attached to reports. The risk here is two-fold for the AMC: first, having the E&O declarations page attached serves as bait for some consumer plaintiffs to file actions which may drag in not only the appraiser but also the AMC and lender; and second, there are instances where the attached E&O declarations page has been forged, resulting in lenders redirecting their claims at the AMC. (READI members can read more about this subject here and here at readimember.org.)
- More AMCs will seek to enforce appraisers’ contractual agreements to indemnify the AMCs for claims by borrowers and lenders pursuant to the indemnification clauses in contractor agreements. It’s been rare in the recent past that AMCs have actually sought to compel appraisers to indemnify them for appraisal-related claims under the terms of the indemnity provisions found in many AMC-appraiser contractor agreements. We will likely see more attempts to transfer AMC liability in the coming year because more AMCs now have the provisions, more claims will be made against AMCs, and AMCs have agreed in their own contracts with their lender clients to assume more liability. This trend will be complicated in a few states where new AMC laws prohibit AMCs from shifting liability for their own conduct.
- We will see a few national AMCs penalized by state regulators. With new authority under some state AMC laws, state boards will first go after the “low-hanging fruit.” The easiest violations for them to prosecute are right out in the open because they appear on the face of AMC-appraiser contractor agreements. As states have enacted AMC laws and adopted regulations over the last year, many AMCs have failed to update their agreements to meet the differing requirements in each state. This will be an expensive trap for some, not only because of the penalties and costs of discipline but also because of the loss of lender business when discipline is publicized (most lenders will not want to take the risk of utilizing an AMC which has been the subject of state discipline). It will be very important for AMCs to have access to legal counsel familiar with defending appraisal-related matters before state regulators. (READI members can read about some typical AMC agreement problems here.)
- Dodd-Frank’s mandatory reporting of USPAP violations will create a dilemma for some AMCs. Under Dodd-Frank, AMCs have a TILA-based duty to report appraisers to state regulators when there is a reasonable basis to believe a USPAP violation has occurred, while many AMCs have contractually promised their lender clients to indemnify them for damages and costs relating to appraisal reports which fail to comply with USPAP.
- Specific Litigation Predictions for 2011 (No New News Here): the FDIC will continue to be the single biggest source of appraisal-related claims; borrowers will continue to file more claims than lenders; First American CoreLogic will continue to be a very aggressive, but mostly unsuccessful, litigant against competing companies; and Florida, Arizona and North Carolina will continue to be the riskiest states for appraisal-related claims.