IT'S A VALUABLE DATE
Hello Fellow Appraisers,
One very important step in appraising is to select the correct date for determining value. This is called the "effective date." Effective dates are often determined by legal requirements. The effective date will be a current date or a previous date.
The question is, can an effective date be a future date? The answer is a simple "no."
Basically, appraisers determine value by analyzing market activity. If one were to predict future market activity, then hopefully they would have an instrument called a crystal ball.
Let's use an everyday appraisal assignment and see if this is true. To render an appraisal to be used to obtain insurance, one uses the date of inspection as the effective date. If, for example, one used the date of rendering the appraisal as the effective date, then that may be a few days after viewing the items. If during that time frame the client loses the item, they can use the misdated appraisal to secure insurance on an item they no longer have. They then file a casualty loss for an item they did not have when they got insurance. The date allowed the client to commit insurance fraud.
What about determining a proper value conclusion? There are two trends taught when it comes to appraisals to be used for obtaining insurance. One is to report a value that is strictly based on analyzing market activity. The other is to add a fudge factor to the value - usually ten to fifteen percent. Which approach is proper?
To begin with, insurance is based on indemnity. Indemnity means that the insured will be made whole again in the event of a casualty loss. Being made whole means not making a profit or sustaining a loss but made equal to what the insured was just before the loss occurred.
Keep in mind that the insurer will use the appraisal for obtaining insurance to determine risk and set the premiums. If the item is still being sold as new, then that is the highest risk the insurer may have. Let's not get sidetracked into how to value an item as that will double this news brief.
In the event of a casualty loss, the value definition will change to actual cash value (unless it is an agreed value policy, which is very rare with jewelry). Actual cash value is defined differently in different jurisdictions. And the effective date will be the date of incident. In the Appraising Demystified website, all 51 jurisdictions are detailed for the mandatory methodology required for an insurance casualty loss.
Back to the fudge factor issue. Some appraisers claim it is acceptable, when a market is rising, to add a fudge factor percentage to the value. Then wouldn't a minus fudge factor be mandatory if the market is falling? In such a situation, isn't the appraiser predicting a value?
If one pays a higher premium due to a fudge factor and a casualty loss occurs, will they get more money? No. The value definition will change to actual cash value. And actual cash value will be determined the same way regardless of the premiums paid.
The legal requirement is for the client to be made whole again under the principle of indemnity. To have a fudge factor undermines the principle of indemnity. That is called moral hazard. Moral hazard comes into play whenever it is more tempting to sustain a loss rather than to avoid a loss. If indemnity were not the basis of insurance, it would be considered gambling. If, for example, the item is worth $100,000 and a fudge factor of fifteen percent were added to the original appraisal for obtaining insurance, the reported value would be $115,000! The insured might be very tempted not to properly protect the item since they can replace it and have money for a super vacation!
Just report a value that would achieve indemnity on the proper effective date.
Written by Bill Hoefer
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