Rampant foreclosures over the last three years have ravaged real-estate markets nationwide, dragging down housing prices and shredding the value of local tax rolls. But even blights have their bright sides, and this one favors investors with the insight and tenacity to spot bargains.
In December 2010 alone, about one in every 500 U.S. homeowners received a foreclosure notice, the first step in what can be a drawn-out legal process that in many cases ends with a lender taking possession. In January, the total number of bank-owned homes in the United States exceeded 1 million for the first time, reported RealtyTrac, a research firm that also offers a detailed checklist for how buyers should approach the foreclosure market.
Lenders typically don’t want to hold foreclosed property any longer than necessary. Upkeep is a drain on their balance sheets, so selling properties—even for substantially less than what the last owners owed—often is an immediate goal.
Investors have a great selection of bank-owned real estate to consider this summer. In fact, though court actions to foreclose on homes in many locales have slowed recently, there is still such a glut of bank-owned homes on the market with lenders searching for new owners that inventories have climbed as houses stay on the market longer, further depressing prices in many areas. But even with such a buyer’s market, financial advisers urge caution.
“My first advice is to take your time,” said Melissa Powell, director of sales and business development with Depotpoint, a Bellevue, Wash., company that helps lenders navigate defaults. “There are great deals to be had, but you really need to work with someone who does this kind of work for a living.”
Online services such as RealtyTrac offer detailed information about where foreclosures are concentrated and how market conditions are developing. Investors ought to consider doing their own research before deciding where to look for property.
Buyers can look at lender-owned properties or try to snag real estate before it ends up in the banker’s hands. Financially strapped homeowners often are willing to sell their homes at a discount through short sales. But these transactions are often difficult to complete. Even if the would-be seller accepts an offer, his or her lender typically needs to sign off on the deal, because it would mean the lender doesn’t receive the full amount owed on a mortgage.
“The biggest pitfall to short sales is time,” Powell said. “You might have to deal with the owners’ bank or with multiple lenders, getting all of them to agree to the deal.”
Public auctions offer another alternative. Though real estate lore suggests these sales happen on the steps of local courthouses, jurisdictions use a variety of processes to auction foreclosed property. In some cases, it’s all done online.
But foreclosure experts say buyers who aren’t familiar with auctions should proceed with great caution. Often, the process doesn’t allow adequate research, and sometimes buyers can’t even visit the properties before bidding. Auctions often tend to become heated, and prices can rise above the underlying value of what is being sold.
“Sometimes you can get great deals, but sometimes the price goes higher than a property is worth,” said Steven Horne, president of Wingspan Portofolio Advisers LLC, a Dallas company that specializes in distressed mortgage loan workouts.
Those who don’t feel up to buying at auction may consider using lists of property about to go on the block as tip sheets. Investors often contact the owners of such properties to try to work out a deal before the real estate is auctioned.
Title considerations are another headache. Buyers need to discover whether there are any liens on the property that might need to be satisfied for a sale to go through. Mechanics liens, those placed by building contractors and repair companies for unpaid work, are common. But other filings might have come from homeowners associations for delinquent dues and state agencies for unpaid child support.
In many instances, even the mortgage holder is unknown. Though a bank might be servicing a loan and initiated a foreclosure, the mortgage might have been pooled in a security owned by multiple investors. Last year, many foreclosures in hotspots like Florida were halted after homeowners claimed that lenders failed to identify who actually held the mortgage papers on the properties they sought to seize.
Experts suggest homeowners pay for title searches to discover potential problems, and obtain title insurance to protect them if an undetected problem with a lienholder erupts.
Prices are another issue. Despite decreases of 50 or 60 percent in some hard-hit markets, home values have continued to slide this year. The problem could grow worse as lenders complete stalled foreclosures, revealing what real estate insiders call a shadow inventory of defaulting property. As prices fall, some homeowners with the wherewithal to pay their loans might begin abandoning their properties as market prices fall far below what they owe.
“You have to be cognizant not only of the location of a property but the dynamics of a local market,” said Bill Garland, senior vice president of ISGN, a Bensalem, Pa., company that provides outsourced mortgage-loan services. “You have to know a lot about the housing inventory in a particular neighborhood. That inventory could have a big impact on future values.”
Buyers also need to carefully consider their objectives. If they plan to live in a dwelling, that’s simple. But if they plan to rent it, they need to analyze rent levels in a neighborhood to determine if the deal makes sense.
Financing is another problem. If the buyer is an investor and not an occupant, lenders often impose stricter lending criteria. “Some lenders are now asking for 30-percent down payments,” Garland said.
Wingspan Portfolio’s Horne said the massive upheaval in the real-estate market that accompanied the bubble’s formation and its collapse has made assessing value particularly difficult. He said the problem becomes even more complex when investors factor in the supply of housing, future population shifts and the employment market.
“Eventually people have to have a place to live,” Horne said. “But there are a lot of variables. An investor has to have a theory about where things are going and not be afraid to look five to 10 years down the road at where things are headed.”
Christopher Boyd, a former business reporter for the Miami Herald and Orlando Sentinel, is a freelance writer based in Orlando, Fla. He previously was a page-one columnist for the Miami Daily Business Review and Southeast correspondent for the Boston Globe. Boyd also has written for The New York Times, Newsday, the Chicago Tribune, The Dallas Morning News and other publications. He is a frequent contributor to WEALTH magazine.
7 Tips for Buying Foreclosures
1. Don’t get caught up in a feeding frenzy. Lowball prices can represent golden opportunities, but they also attract dozens of buyers who may bid until homes are no longer bargains. Don’t get caught up in a bidding war. Instead, carefully calculate what you want to spend and do not exceed that price.
2. Contact lenders directly. Smart buyers establish relationships with asset managers at banks. This may reward them with inside information or first crack at new foreclosures hitting the market.
3. Get pre-approved from the lender you want to buy from. If you’re trying to buy a property from, say Bank of America, it can help to get a pre-approved mortgage from Bank of America. Doing so may cause the lender to look more favorably on your bid if it’s similar to others. Plus, you’re not locked in if other lenders offer you better terms.
4. Consider fix-ups. Most bank-owned homes are sold as is. That can be problematic because so many foreclosed homes are in less-than-mint condition. In one out of four cases, homebuyers persuade lenders to fix some of the problems before the sale closes. Most of the time, banks would rather sell the house to the next available bidder—one who doesn’t ask the bank to pay for repairs. So be willing to consider a home that needs some work, but budget accordingly.
5. Hire a real estate attorney. Once banks agree to sales, they often want to move fast and load contracts up with legal mumbo jumbo. As a result, buyers often do not have the time or expertise to figure all the angles. The solution is to hire a real estate attorney. Considering that you’re making a six-figure investment, legal fees are cheap insurance against the risks.
6. Wait to make an offer. Homebuyers may be well served to wait before making an offer. Let the house sit on the market for a few days, giving others a chance to set the bidding tone. Then jump in.
7. Tour properties with contractors. With so many foreclosed homes in seriously deficient shape, it’s essential to go over every inch with someone who can spot problems and tell you how much it will cost to remedy them. A foundation crack can be a minor problem or a deal breaker, and most ordinary homebuyers have no way of telling the difference. Like an attorney, a contractor’s inspection can be very worthwhile insurance.