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Foreclosures:
For novices
By
Mike Giusti · Bankrate.com
The
allure of foreclosed properties to a would-be real
estate investor is nearly
irresistible:
Buy valuable properties for pennies on the dollar with
little or no risk of
your
own money, work when you feel like it, and grow
rich.
Countless
seminars and how-to books promise to turn even the most
novice buyer into a
high-powered
real estate investor through the magic of foreclosed
homes. The trouble is the
dream
of instant, safe, trouble-free wealth often turns out to
be like most things that
sound
too good to be true -- a scam. If easy money was to be
made, everyone would be getting
rich
off of foreclosures.
True,
some people do, just like some people get rich in the
stock and commodities markets,
oil
wells and foreign currencies. But, just like these other
forms of investing, profitably
buying
and selling real estate takes research, knowledge,
experience, money and time. And
nearly
every deal with a huge profit potential also comes with
an appropriately sized
risk.
Beyond
get-rich-quick seminars and informational classes
offered by nonprofit agencies and
local
sheriff's offices, few, if any professionals are
available or willing to teach novice
investors
the ins and outs of foreclosure sales. Why should they
show you how to buy a great
property
at a deep discount instead of doing the deal
themselves?
Still,
if you are willing to go it alone and invest the time
and cash required to deal in
foreclosures,
your first step should be to understand the process as
thoroughly as possible.
The
basics
Foreclosure
is the legal method by which lenders or governmental
agencies take properties
from
owners who fail to make payments, and then resell those
homes to recoup money owed
them.
Nonpayment
of a mortgage or home equity loan is the most common
reason a home gets
foreclosed,
but it is far from the only reason. But people could
also be facing a
foreclosure
because of a balloon payment, not paying property taxes,
not carrying enough
insurance,
or even failing to keep the property in good working
condition, says Rande
Johnsen,
a trustee for Trustee Corps in Irvine,
Calif.
There
are three distinct phases of foreclosures, each with its
own advantages and each
fraught
with peril.
The
3 phases of foreclosure:
·
Preforeclosure: The time between when the homeowner has
stopped making payments and when
the
land is actually put up for sale at auction. Investors
take this opportunity to deal
directly
with the homeowner.
· Auction: When the courts
seize the property from the homeowner and sell it to the
highest
bidder.
The county sheriff or a trustee handles this process,
depending on the state.
· REO: If the property fails
to sell at auction, or if the lender ends up as the
highest
bidder,
the home becomes "real estate owned" (REO) by the bank.
Banks then try to sell these
REO
properties on the open market, often through a real
estate agent or third-party
marketing
company.
Often
these homes are sold to buyers who don't even know they
are buying a foreclosure and
go
through the entire process as they would with any other
home.
Going
once ...
The
typical foreclosure is literally bought on the county
courthouse steps during a
sheriff's
auction or a trustee's sale. These auctions are
typically held on a weekday
morning,
and bidders must come to the sale armed with information
and flush with cash or its
equivalent.
Plastic, personal checks and IOUs are almost universally
shunned at auction and,
depending
on where you live, investors usually must make a sizable
deposit or pay the entire
sum
on the spot, says John T. Reed, editor of Real Estate
Investor's Monthly newsletter and
author
of the book "How to Buy Real Estate For At Least 20%
Below Market Value."
Details
vary widely by state, but as a rule, prospective buyers
are not allowed inside the
house
before bidding begins. This is a frightening concept for
many buyers, who must lay
down
thousands of dollars in cash upfront without knowing
anything about the home beyond
what
is available through basic public records searches and a
curbside appraisal.
The
house could be infested with termites, gutted to the
rafters by previous residents or
filled
with lead paint or asbestos, and a buyer wouldn't know
until after the sale is
final.
This
as-is aspect of auctions is only part of what can make
foreclosures so perilous for
beginning
buyers. Another is that these homes can never be
guaranteed to come with a clear
title.
"You
can never be absolutely sure you are going to be buying
a house with a clean title in
any
sale, but foreclosures are particularly problematic,"
says John Mixon, law alumni
professor
at University of Houston Law
Center.
During
a typical foreclosure auction, the homes that will be
sold are listed in the legal
advertising
section of the county's newspaper of record at least a
week before the sale. And
while
you may have a week to research the records and history
for each house scheduled for
auction,
many homeowners settle their disputes with the bank at
the 11th hour, halting the
sale.
This means any time, effort or expense you invested to
research the home is lost.
Given
these constraints, obtaining title insurance is out of
the question.
But
choosing to forgo title research could end up being
infinitely more costly. "There are
so
many regulations, so many procedures that if you leave
out a step, a previous owner may
come
out of the woodworks and show this to the court and you
lose everything you put into
the
deal," says John T. Reed, editor of Real Estate
Investor's Monthly newsletter and author
of
the book "How to Buy Real Estate For At Least 20% Below
Market Value."
Even
if a title blunder doesn't invalidate the sale,
overlooking a lien that wasn't wiped
out
by the foreclosure, such as an IRS debt you now have to
pay, could wipe out any profit
you
hoped to earn. Procedural errors and court rulings could
also halt a foreclosure sale.
What's
more, some state laws include a statutory redemption
period, allowing the original
homeowner
to repay the past-due amount on their loan, regain
ownership and leave the
investor
holding the bag.
Not
all hopeless
But
all that doesn't mean every auction deal is hopelessly
risky.
"Very
few institutional foreclosures are defectively handled,"
Mixon says, so the best bet
is
to stick to homes that were foreclosed by reputable
lenders, but only if they were the
first
lien holder, usually through a first mortgage. If the
deal was done properly on the
front
end, complete with title insurance, there's less
likelihood that a skeleton is
lurking,
and about a 90-percent chance of getting a good title.
"If you are buying a
foreclosure
brought by a small or shady lender or by a family member
who lent the money, you
may
be looking at odds that are no better than you would get
at the roulette table," Mixon
says.
Government
auctions
Another
variation on the auction is buying properties foreclosed
by a government agency,
such
as the Department of Housing and Urban Development or
the Veterans Administration.
These
auctions are typically conducted online through a
marketing company. Buyers are
allowed
to tour the homes in advance, conduct inspections and
can often get title
insurance.
While
these auctions are appealing, the availability of homes
is limited and the small stock
is
often bid on by several buyers. This makes it a very
competitive market with prices
discounted
only slightly, if at all, off current market
value.
Tabletop
negotiations
One
purchase method advocated by numerous seminars and real
estate gurus is to find property
owners
delinquent in their payments through legal ads or online
services that search public
records
and courthouse documents. You could then approach the
owner directly to negotiate a
private
deal.
Advocates
of this method call it "buying equity." Essentially,
investors pay the owner a fee
and
then take over the existing debt and the home. This
keeps protects the homeowner's
credit
report from the black mark of
foreclosure.
Buying
equity this way is difficult if a seller's market exists
because the owner could just
as
easily sell the home and usually pocket a greater amount
in appreciation than an investor
would
be willing to pay.
"Some
people call this stealing property," Reed says. "It is a
situation fraught with
ethical
problems."
But
similar to auction situations, the slightest slip-up
could blow the deal, leaving the
homeowner
in the house and the investor out significant amounts of
money. Also, all of the
title
problems inherent in an auction also apply in
preforeclosure sales, except that
without
the legal proceedings of a foreclosure, all subordinate
liens, such as home equity
loans
and construction liens, remain in
place.
Sale
mentality
Despite
all the potential pitfalls, interest in foreclosures
runs high. Part of the
attraction
comes from the same motivation that makes bargain
shopping trendy, says C.J.
Gehlke,
editorial director of "The Resource," a monthly
newsletter published by REO
Nationwide.
"What
you find is a frenzy similar to what you get at a
department store sale," she says.
"When
you buy a house at foreclosure, it has the same
mystique. You can brag to people at a
cocktail
party about how much you saved."
Reed
agrees that get-rich-quick fantasies are driving most
buyers' interest in foreclosures.
"Buying
foreclosures is not something a beginner should try.
Many of the gurus are out there
telling
crowds anything they want to hear, true or not, just to
sell some books." |