The Office of the Comptroller of the Currency (OCC) Handbook on Commercial Real Estate published in 2013 mandates that environmental contamination should be discussed and considered in real estate appraisals. In the same year the OCC updates were published, the Appraisal Institute released a document providing guidance to appraisers for how environmental contamination should be considered in the valuation of real property. So how did this mandate to consider environmental contamination come to be included in these appraisals guides?
Tightening Environmental Risk Policies
Across the CRE industry, lenders’ tolerance for environmental risks have changed significantly and today environmental issues play a much more prominent role in their overall risk management strategies. The Dodd-Frank law passed in 2010 required a great deal of enhanced risk analysis by financial institutions, but, in all 1375 pages of the act, the only relevant item was the establishment of an Energy and Environmental Markets Committee that had the responsibility to: (I) conduct public meetings; (II) submit reports and recommendations to the Commission (including dissenting or minority views, if any); and (III) otherwise to serve as a vehicle for discussion and communication on matters of concern to exchanges, firms, end users, and regulators regarding energy and environmental markets and their regulation by the Commission. I don’t see a role for evaluating hazardous materials and environmental contamination in commercial real estate transactions here.
The Dodd-Frank Law changed the risk profile for all the regulators in the financial industry, not the least of which was the OCC, which took a lot of negative reporting in the media during the financial crises. I’ve read four books on the crises and they all described the OCC as a “paper tiger.”
On December 10, 2010 the OCC published a document “Sound Practices for Appraisals and Evaluations” This replaced a 1994 OCC guidance document. It was directed to, among others, the CEOs of National Banks and federal savings associations, which is the OCC’s area of regulation.
There is a link in this document at the bottom to the “Interagency Appraisal and Evaluation Guidelines”, which is an excerpt from the Federal Register, published the same day. On the second page is a list of all the agencies that need to comply with these requirements. Much of this Federal Register language has been included in the OCC handbook.
Validity of Appraisals and Evaluations
Page 77461 of the Federal Register titled Validity of Appraisals and Evaluations states that institutions are allowed to use an existing appraisal or evaluation to support a subsequent transaction in certain circumstances. Therefore, an institution should establish criteria for assessing whether an existing appraisal or evaluation is still valid and continues to reflect the market value of the property. A new appraisal or evaluation is necessary if the originally reported market value has changed due to factors such as:
- Passage of time
- Volatility of the local market
- Changes in terms and availability of financing
- Natural disasters
- Limited or over supply of competing properties
- Improvements to the subject property or competing properties
- Lack of maintenance of the subject or competing properties
- Changes in underlying economic and market assumptions, such as capitalization rates and lease terms
- Changes in zoning, building materials, or technology
The OCC Handbook also states that for transactions requiring an appraisal or evaluation, if a bank has a valid and compliant appraisal or evaluation that was previously obtained in connection with the real estate loan, the bank does not need to obtain a new appraisal or evaluation to comply with these regulations. OCC Bulletin 2010-42, “Sound Practices for Appraisals and Evaluations: Interagency Appraisal and Evaluation Guidelines” (see section XIV, “Validity of Appraisals and Evaluations”), states that banks should establish criteria for assessing whether an existing appraisal or evaluation remains valid and discusses factors that should be considered.
So the environmental contamination in the August 2013 Office of the Comptroller of the Currency (OCC) Handbook on Commercial Real Estate comes from regulations published 3 years earlier. The Appraisal Institute Guide Note 6 was published in July 2013, so clearly there was communication between the agency and the industry so they could “get their ducks in a row” but took a long time.