Housing appraisal database may be faulty, experts say
Quick appraisals often overvalue home, raising risk of U.s.-style housing crash
TORONTO — A Canadian database that allows mortgage lenders to appraise a property quickly before writing a loan may have overvalued homes in the country’s sizzling housing markets and could raise the risk of a devastating U.S.-style crash.
Some experts worry it puts lenders and mortgage insurers in a vulnerable position should the hot housing markets of Toronto, Vancouver and other big cities experience a hard landing.
Fears that the housing market may be at a tipping point are intensifying. Last week, data showed Canadian home sales fell by 15.1 per cent in September compared with a year earlier, while Canadians’ indebtedness hit 163.4 per cent of their income, higher than previously thought.
Documents obtained through an Access to Information request suggest some industry players are worried about the database, called Emili — operated by Canada Mortgage and Housing Corporation, a governmentowned mortgage insurer.
Lenders use Emili to gauge if a house is worth the price the buyer paid; if not, they may decide to withhold the full value of the mortgage.
Emili uses a combination of nearby home sales figures, property assessment data and information about the property taken from its online house listing. It saves them time and money because they do not need to send expert appraisers to each property.
That said, the system “has significant shortcomings,” says one respondent quoted in the documents from the Office of the Superintendent of Financial Institutions (OSFI), Canada’s federal banking regulator. The documents were compiled as part of a consultation process on mortgage underwriting practices.
By relying on data from surrounding properties, the system is prone to looking past specifics that could change the value of an individual property, critics say.
Perhaps more alarmingly, it also often uses information provided by the home’s seller, (property dimensions and condition of infrastructure such as heating systems). Online listings can often exaggerate such information.
OSFI, which oversees CMHC, concedes automated appraisal systems can skew values to the upside. The regulator also warns, in the documents, that lenders should not rely on just one appraisal method.
Emili, created in 1996, has come under scrutiny because of fears that Canada’s hot housing market could implode like the U.S. property market did in 2007.
Canadian home prices fell a little during the worst of the U.S. crisis in 2008, but quickly regained their footing and have continued to push higher, underpinned by Canada’s steady economy and rockbottom interest rates.
However, prices are now dropping in the Vancouver market, and many fear the same fate awaits the country’s largest real estate market, Toronto, where condominium construction cranes dot the waterfront raising the spectre of a supply glut.
“It’s no secret for years now that within the industry there were doubts about Emili and its accuracy,” said Finn Poschmann, vice president of research at the C.D. Howe Institute, a Canadian economic think-tank.
As Emili only comes in to play after a sale agreement, it is unlikely to push home prices higher, Poschmann said. But the system could result in buyers being approved for home equity-backed lines of credit at higher values than the house warrants.
To be sure, other appraisal systems have flaws, and falsely inflated property appraisals were one factor in the U.S. housing crisis. Licensed appraisers, often hired by mortgage brokers on behalf of homebuyers, were under pressure to inflate home values so buyers could qualify for the loans they needed, helping drive up prices
Ottawa has tightened mortgage rules to lessen risks, by requiring borrowers take out mortgage insurance on purchases where the down payment is less than 20 per cent.
But such precautions haven’t stopped some from worrying that the flaws in the system could become an issue if the Canadian housing market runs into a worstcase scenario of rising interest rates and defaults.
In that situation, banks could find themselves holding collateral that is worth less than they thought.
CMHC provides the bulk of Canadian mortgage insurance, while smaller competitors Genworth Financial Inc and Canada Guaranty provide the rest.
CMHC said Emili was just one tool used by underwriters and that it reviews specific characteristics of the property in question and uses different information sources.