Michael Austin

Over the past 25 years, Stephen Adelfio has refinanced his mortgage several times and has borrowed money against the value of his 2,500-square-foot, four-bedroom, 2½-bath house in suburban New Jersey to help pay for everything from home improvements to the education and weddings of his two daughters.

Last summer Adelfio, a principal member of AT&T Labs’ technical staff, was in re-fi mode again, to take advantage of rock-bottom lending rates and, possibly, to borrow for a $50,000 kitchen renovation he and his wife, Patricia, have been contemplating.

Adelfio refinanced through his company’s credit union at a 4% interest rate. But the $425,000 appraisal on his house was about $25,000 under what he had hoped for. He felt the appraiser’s choice of comparable homes was “arbitrary,” especially after Pat had searched township records and came up with other similar homes nearby whose selling prices matched or exceeded what the Adelfios believe their house is worth. The lower appraisal made the kitchen remodel less attractive as an investment to the couple, who have put it on hold.

Unfortunately for remodelers across the country, this scenario is all too common, as stingier appraisals and tighter lending standards have become disincentives for remodeling, especially where foreclosures are rampant. “It’s happening almost every day,” asserts Delbert Adams, whose design/build company, in Middleburg, Va., specializes in additions and whole-house projects. “The appraisal and underwriting processes are making it very difficult for owners to do substantial renovation.”

Less Wiggle Room

Loose appraising practices contributed to property value inflation during the last housing boom. But as home prices plummeted over the past four years and as foreclosures accounted for a bigger portion of existing-home sales nationwide it became clear that the appraisal process needed tweaking. One reform was last year’s agreement by Freddie Mac and the Federal Housing Finance Agency to only purchase mortgages from sellers that abide by a Home Valuation Code of Conduct (HVCC) that erects a wall between lenders and appraisers to prevent undue influence on appraisal reports.

But remodelers argue that the pendulum swung too far in the opposite direction, as they’ve seen firsthand how lower appraisals have led to delays or postponements of projects because homeowners couldn’t obtain sufficient financing. “You used to be able to work with appraisers to get the number you needed; not anymore,” says Bob Tilghman, who owns Tilghman Builders in Churchville, Pa.

An unintended consequence of HVCC, say some market observers, has been a decline in the quality of appraisals when banks choose to work with third-party appraisal companies whose agents aren’t familiar with the nuances of a given market or aren’t given enough time to do appraisals properly. The result is what Allen Gardiner, vice president-residential for the Plano, Texas–based appraisal firm Jackson Claborn, calls “checklist appraisals,” where agents follow the narrowest of comparable guidelines. “Lots of appraisers are simply filling out forms the quickest and easiest way possible,” he says.

To give homeowners more confidence in an appraisal’s integrity, some lenders and servicers have set up appraisal subsidiaries with firewalls. Last year, Fairway Independent Mortgage Corp., a Wisconsin–based mortgage financing company operating in 47 states, directed its 100-plus branches to spin off autonomous appraisal companies whose local agents know their territories and can produce defensible opinions of a home’s value. “We have many niche markets in Minnesota, and customer service is a key for us,” says Kate Wilson, who manages Fairway’s mortgage branch in Bloomington, Minn.

But appraisers shouldn’t be castigated, says Wilson, when they arrive at an honest number that doesn’t sync with homeowners’ loftier expectations. “We can’t change the fact that the housing market in our state is down 30%,” she says. Wilson and other sources also note that with home sales still weak in many markets, finding comparables to use for appraisals is a challenge.

But that doesn’t alter remodelers’ perceptions of an appraisal process that’s cramping their business. “Our market has seen its share of foreclosures and short sales, but house values haven’t dropped that much,” says Chip Crawford, remodeling superintendent for Crawford Builders, in Lexington, Ky., half of whose clients require bank financing. “Despite that, appraisers will still only give you 80%” of perceived value, he says. “They’re just looking at comparables on a computer screen, and if you’re not adding a room or if a project doesn’t fit [a bank’s] model, you’re not going to get full financing.”

Homeowners can forget about getting credit from most appraisers for any value that energy-efficient or sustainable elements might add to their homes. “It’s zip; it doesn’t matter to them,” says Bill Mulholland, executive vice president for Bethesda, Md.–based Case Design/Remodeling. Consequently, remodelers are being careful about what they include in a project, so that the finished product doesn’t “outprice” the market.

Chris Wright, who owns WrightWorks, a custom builder and remodeler in Indianapolis, says that his “solid design background” has given him a significant competitive edge because he can offer clients “creative solutions” through value engineering to lower a project’s costs.

Seeking Customers With Cash

Mark Zandi, chief economist of Moody’s Analytics, recently told USA Today that two-thirds of the estimated $2.2 trillion of mortgage debt that households refinance this year will go toward reducing indebtedness or increasing savings. Much of the rest will pay for consumables. “Not much is going to home improvement,” Zandi asserts.

“Most people are realistic about the lower value of their property and don’t want to max out their loan-to-value,” observes Dennis Gehman of Gehman Custom Remodeling, in Harleysville, Pa.

That trend, coupled with lower appraisals and restrictive lending, is leaving more remodelers with the bulk of their sales coming from customers who can self-finance their projects.

More than half of Case Design’s customers now pay for projects with cash from credit lines or savings, Mulholland estimates. It has been two years since Eddie Bourke of Bourke Construction, a full-service remodeler in Orange County, Calif., has had a client who refinanced to pay for a project. “All of my current projects are being paid for from personal savings,” he says. Over that same period, every client whom D&J Kitchens & Baths, in Sacramento, has done work for “had his own money, borrowed or not I don’t know, and was over 50, most of them retired,” says D&J’s co-owner Darius Baker.

Only two of every 10 clients whom Bob DuBree works with are financing projects with second mortgages or home-equity loans. The rest are paying from savings. But DuBree, who co-owns Creative Contractors, in North Wales, Pa., also has seen the scope of many projects get smaller. “People are afraid to spend money,” he says, because they aren’t seeing appreciation in their home values, which, he points out, “goes back to appraisals.”

Even if foreclosures suddenly disappeared, and appraisers and lenders became more flexible, remodelers still think it could take a while before homeowners get over their trepidation about the costs and likely returns on investment from renovation. “If I showed most of my customers plans for a $100,000 kitchen remodel, they’d walk out of the door,” says Betty Sundborg, who co-owns Kitchen Works, in San Rafael, Calif. “They want that kitchen, but they want to spend $50,000 to $60,000 for it.”

—John Caulfield is a freelance writer and editor based in New Jersey.