A property appraisal is supposed to be an objective, independent estimate of market value based on recent comparable sales, property condition, and local market factors. When the appraisal is manipulated to support a predetermined value, the resulting fraud affects lenders, buyers, and entire neighborhoods. Overstated appraisals become false comparables that distort values for other transactions and harm everyone who follows.
How Appraisal Fraud Happens
Appraisal fraud doesn't always require a corrupt appraiser. Sometimes it's pressure. A loan officer, developer, or seller communicates to the appraiser what value is needed. The appraiser faces the choice between delivering the desired number or losing the business relationship. In a market where appraisers compete for assignments and have established referral sources, that pressure can be effective even without any explicit instruction.
Manipulated appraisals typically use comparables that aren't genuinely comparable, apply adjustments that favor the target value over objective market analysis, overlook property defects that would reduce value, or rely on distressed sales from a different market as anchors for higher adjustments.
Inflated Appraisals in New Construction
New construction is particularly susceptible to appraisal inflation because there are often few directly comparable sales for a newly developed property. Developers who are also referring appraisers, or who have close relationships with specific appraisers, have more ability to influence the process. Buyers of new construction should understand that an appraisal arranged by the developer or builder may not represent a fully independent assessment.
Cash Back at Closing and Inflated Values
Some fraudulent transactions involve inflating the purchase price to include undisclosed cash back to the buyer at closing. The property sells on paper for $500,000, the buyer is promised $50,000 back at closing as a seller concession not disclosed to the lender, and the lender funds a $400,000 mortgage believing the buyer put down $100,000. The actual purchase price was $450,000, the buyer put down $50,000, and the LTV is higher than the lender knows. An appraisal that supports the $500,000 figure is essential to the scheme.
Impact on Borrowers
Borrowers who accept a loan based on an inflated appraisal take on a loan larger than the property's actual value from day one. If they need to sell quickly, they may not recover the loan payoff from the sale. If market values decline, they go underwater faster. The overpayment doesn't show up on their closing disclosure. It shows up when they can't sell for what they owe.
Related: mortgage fraud, straw buyer schemes, and income documentation fraud.