Foreclosures and REO Properties

Facing Foreclosure? Learn more about programs that can help you keep your home.

As more and more homeowners are defaulting on their mortgages, the foreclosure rates are  at an all-time high. Many people are interested in buying foreclosures, either as investments or as affordable primary residences. However, before you buy a foreclosed property, there is a lot you need to know.

There are three stages of foreclosure:

• Pre-Foreclosure: when the homeowner has defaulted on making payments on the property, but the bank has not yet taken it from them.
• Foreclosure Auction: when the bank auctions off the home to the highest bidder for an amount that is usually no less than the amount owed on the property.
• REO (Real Estate Owned): if a lender fails to auction of the property for the amount remaining on the original loan, they will buy back the property and then sell it, usually for close to the current market value when taking the condition of the property into account.

In what stage is it best to buy?

Many experienced investors will tell you that the best time to purchase a home facing foreclosure is before the bank repossesses the property. However, this can be difficult for many reasons. When approaching a homeowner in default with an offer to purchase the property, you must consider the following:

• After you purchase the property, you assume all liens (second mortgages, home equity loans, tax and mechanics liens).
• Taking over the payments of a homeowner in default is sometimes called “stealing equity,” and some people find it unethical.

In some markets, the best time to buy a foreclosure is at an auction. However, many houses in our region have gone through foreclosure because the homeowner was “upside down”—their mortgage was more than the house is currently worth, and so they were not able to sell to get out of their situation. When the house goes to auction, the bank will buy the house back if no one buys it for the amount of the existing mortgage loan. So, in this market, most of the homes are bought back by the banks at auction.

For most people, the best time to buy a foreclosure is after the bank has “bought back” the home and is selling it as a REO property. This is the safest way for an investor to purchase a distressed property for many reasons:

• The bank usually corrects all title problems, satisfying all liens on the property.
• The bank handles the eviction of the homeowner(s).
• The bank also usually fixes the worst of the damage of the property before listing it as an “as is” purchase.
• A buyer is able to view and inspect the property before buying, so they can have a much better idea of how much money will have to be put into the home to make necessary improvements.

It is very important to do as much research on both the property and the neighborhood before you consider buying a foreclosed property. In order to make a profit, you must consider how much other homes in the neighborhood are selling for, and the cost of the repairs that you will have to make on the property.

Foreclosed homes typically cost 10% to 15% less than comparable homes in the same neighborhood, even after you’ve made all the needed repairs. Savings of 20%—or more—are not unheard of.

Just be sure and follow our three smart moves for buying a foreclosure to make sure you get the best deal and avoid all the costly pitfalls.

Smart Move #1: Know What It Will Cost to Make It Livable

“Good” foreclosed homes are merely run-down houses that have sat empty and neglected for months. Others, however, have been trashed. Some people about to be evicted take their frustrations and anger out on the home. Cabinets and appliances get ripped out. Walls have holes punched in them. Toilets are torn up. Light fixtures are broken, carpeting stained, and wood floors gouged.

Good home inspectors can tell you what’s wrong, but they cannot generally tell you what it will take or how much it will cost to fix something. And many

home inspectors feel more loyalty to the real estate agents who recommend them than to the clients who actually pay them, so they might downplay the damage and underestimate the repair costs.

That’s why you might be better off bringing in a dependable licensed general contractor and asking for a bid to repair everything that is broken.

Smart Move #2: Know What the “Experts” Say the House is Worth

Get an appraisal to determine what the house is worth. An appraiser can tell you how much the house sold for the last time it was bought, and also what similar—but well maintained—houses are selling for right now. Unless you know an appraiser, or get a recommendation from a friend, use whomever the real estate agent recommends.

Smart move #3: Determine What the Home is Worth to You

Remember that the total cost of the house is the purchase price plus the amount of money it will take to make all of the needed repairs. Some experts say that the total cost—what you pay the seller and what you pay for the repairs—should be no more than 90% of the appraised value of similar but well-maintained homes in the area. Others put the figure at 80%.