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Foreclosure Home Buying - 101

Posted by Mitch Argon / CalNeva Realty on Sunday, June 8th, 2008 at 1:43pm.

Foreclosure Home Buying - 101

The purpose of this blog post (a long one!) is to help anyone to rapidly gain an understanding of how to approach the process of buying a foreclosure or short sale home. The information in the post is based on my research and personal client experiences helping people purchase local (Greater Reno-Tahoe area) bank distressed real estate as part of my firm's business.

WARNING - this information is based on Nevada real estate and may not apply to other states in the US. I am not an attorney and can not give legal advice - a great deal of the processes described here are legal but described in lay terms.

Also, I strongly encourage you to not be "blinded" by the hype on the bank owned properties. It is true that there are good deals to be had, however, this is not universal. Unless you are extremely knowledgeable in your local real estate market (and regularly buy and sell as an investor), you should seek counsel AND representation from a real estate professional who has a working knowledge of traditional sales AND bank related properties for sale. For example, I have personally helped clients negotiate better deals from motivated new home builders (with standing inventory) at more attractive terms than nearby bank foreclosure properties - you need to consider your requirements AND the total market. Buy Smart - these services are free to you, as a buyer.

Definitions

It is important that you clearly understand the terms that are broadly used to describe these types of properties.

What is a "Short Sale"?

A property is sold as a "short sale" when the Seller, upon closing escrow, will not be able to pay off all outstanding mortgages (liens) against the property. In essence, the lender(s) will be "short" of their full payoff. Due to this shortfall, the lender(s) must approve of the sale price and terms which is why alias terms for short sale are also "subject to bank approval" or "subject to lender approval". In a short sale, the property owner owns the property but REQUIRES BANK APPROVAL as a condition of sale.

What is a "Foreclosure"?

A "foreclosure" property (also known as "Bank Owned", "Real Estate Owned", "REO") is one that is legally owned by the lender. The owner who has been "foreclosed on" is no longer the owner and is not named on the title of the property.

The foreclosure process generally takes 5 to 9 months from the time the owner stops making mortgage payments to the time of foreclosure.

During this time, the owner is served a Notice of Default (usually after falling behind for three or more mortgage payments). The Notice of Default is also filed with the county of the home's location AND published in at least one public location like a newspaper or public library. The home owner has 35 days to bring payments current or "cure the default". A home with a Notice of Default filed is often referred to as a "Pre Foreclosure".

If the home owner does not bring payments current, the lender's next step is to file a Notice of Trustee Sale with the local county. The Notice of Trustee Sale is basically an announcement of a "Bank Auction" and will include the date, time, and location for the sale as well as all outstanding liens (mortgage amounts) on the property. If the home is not sold at the auction (read below for more on this), the bank assumes title and "forecloses" on the property.

Locating Bank Distressed Properties for Sale?

Short Sale

Finding a short sale home is not as easy as a foreclosure home. The owner could be selling it "for sale by owner" or it could be listed with a broker. In some cases, a home could be progressing towards foreclosure and not be "for sale" - the owners simply plan to "walk away". Most commonly, these homes will be listed with a local broker and may or may not be clearly identified to the consumer that the sale is a short sale until the time an offer is submitted. The Northern Nevada Regional MLS recently added a mandatory field which requires agents to identify a short sale property, however, this information is not required to be published to consumers in advertising (print or web sites).

Buying a "Bank Auction" Home?

The minimum price or "starting" price at a bank auction will equal the total outstanding mortgage balances (all mortgages) plus other costs of sale. Is this a good deal? No. The reason these homes are being sold is the owners have zero or negative equity and are not able to make payments. If the home was worth more than the loan amounts AND the seller could realize that price, most people would sell the home, pay the bank, and get on with life. Further, after the bank forecloses on the home, they will need to have the home listed for sale at a price LOWER than the auction price if they want to sell the house.

Foreclosure

After a bank forecloses on a property, the bank will hire a local real estate broker (either directly or through an outsourced company) to list the property for sale. Banks are not in the business of selling real estate and likely maintain mortgages over a large geography - as a result, banks do NOT sell these homes DIRECT. At that time, the home will be in the Multiple Listing Service and the listing will likely be propagated to a wide range of real estate web sites on the Internet. The Northern Nevada Regional MLS recently added a mandatory field which requires agents to identify a bank owned property, however, this information is not required to be published to consumers in advertising (print or web sites).The listing MAY or MAY NOT provide you, as a consumer, explicit information declaring the listing as a foreclosure home.

Northern Nevada Bank Distressed Homes

I publish Notices of Default and Notices of Sale for Washoe (Reno, Sparks, Incline Village), Lyon (Fernley, Dayton), Carson City, and Douglas (Minden, Gardnerville, Genoa, Stateline, Zephyr Cove, Glenbrook) counties on my site on a frequent basis. In addition, I publish a list of foreclosure homes by city monthly. If your needs are more immediate, you can subscribe to my Reno-Tahoe Foreclosure Email Alert System for a list of new/changed foreclosure and short sale listings on a daily basis.

Summary of Key Differences

The table below will highlight the key differences among the three types of transactions reviewed. If there is no mention to a specific area of the transaction, you should assume it would be handled as in a typical real estate transaction. Below the table is a further explanation for each row in the table.

  Standard Short Sale Foreclosure
Negotiation      
   Is price negotiable? yes yes yes
   Seller response time? 1-2 days 3-4 months+ 1-5 days
       
Contract Terms      
   Seller Real Property Disclosure? yes yes no
   Inspection contingency? yes yes yes
   Sold "as-is"? maybe yes yes
   Seller right to terminate? no ? yes
   Delay in closing penalties? no ? yes

How Negotiable is the Price?

The lending institutions are in business to make profits (or minimize loss). These businesses are not "pushovers" who take any price to get a property sold. They are motivated sellers, however, and will often price the homes below the market. Based on this below market pricing, they offer less room for negotiation. You can review statistics on sold homes for more detail.

Why do Short Sale Approvals Take So Long?

Uncertainty. Negotiation. Volume. The cross section of these three terms does not foster speed in any situation. In a short sale scenario, the home owner must provide extensive documentation (pay stubs, tax returns, current bills (current and delinquent), savings account balances, retirement account balances - more information than was provided to get the loan in the first place!) to the lender to convince the lender that they can not meet their loan obligations. Not all short sales are approved by the lender because the home owner may not meet all of the lender's conditions (unemployed or underemployed, exhausted savings balances, sold cars with car payments, etc.).

  • UNCERTAINTY - The lender(s) must be certain that the home owner is not casually walking away (many people are trying this in today's market) from the loan obligations.
  • NEGOTIATION - In most short sale scenarios, there is either two lenders (a first and second mortgage holder) OR a lender and a private mortgage insurance (PMI) carrier. These two organizations need to negotiate how the loss will be shared between them. If you have ever participated in negotiations between two corporations, you will know this is not typically done quickly.
  • VOLUME - We are seeing record numbers of people falling behind on payments due to sub-prime lending practices. When this volume level is added to the equation, an inherently slow process becomes unpredictably slow.

 

If you are an investor or have a very flexible time schedule (and great patience), you may want to pursue buying short sale properties. If you have any type of time constraint (starting a new job, getting kids in school, coordinating a move, etc.), you would likely be better served by avoiding these listings in the current market environment.

What is a Real Property Disclosure?

In Nevada, a home seller must complete a form called a Sellers Real Property Disclosure (SRPD) when selling any property (this includes 'for sale by owners'; new home construction is exempt as a result of state required warranty obligations by the builder). The form (4 pages) is designed to protect a home buyer and requires the Seller to document (by checking boxes and elaborating as needed) all known problems and conditions with the property. On a foreclosure home sale, the bank will require the Buyer to provide notarized consent of the bank's obligation to provide a SRPD. In other transactions, the Buyer's have the right to review this information and, if not deemed satisfactory, cancel the purchase contract.

Can I cancel if something is wrong?

You are entitled to have the home professionally inspected within a negotiated number of days from contract acceptance. If the inspection results are not satisfactory to the Buyer, the contract can be canceled.

What does "As Is" Mean?

"As-Is" means the Seller will not make any repairs to the property. A standard contract will typically allow for a pre-negotiated (in dollars) amount of repairs to be made by the Seller subject to the property inspection. Do not expect a bank to do anything to the property. In limited occasions, the bank may be required to make certain repairs if the repair work is a condition of the Buyer's lender funding the loan - this condition would be more typical with FHA or VA backed loans.

What is a Seller Right to Terminate?

Most banks require the Buyer to agree to a provision which gives the bank the right to terminate the agreement at any time and for any reason up to the time of close of escrow, without any penalties. I have not seen one terminate an agreement (remember, they want to sell the house), but I have also seen banks refuse to change this language and "lose a sale" over it. This can create some anxiety for some home buyers but should be manageable.

What are Buyer Closing Delay Penalties?

When a contract is signed, there will be a scheduled date for close of escrow. Banks commonly impose a penalty to the home buyer (on a daily basis), if this date is extended for any reason.

More Resources

As mentioned above, we publish related information on a regular basis on this blog site. Feel free to subscribe to our services (market reports or foreclosure alerts) or check back often! If you have questions/comments or would like further service, please call me up at 775-315-4424 or send me a note using the site request feature.

Mitch Argon
Broker - CalNeva Realty

13 Responses to "Foreclosure Home Buying - 101"

Alex wrote:
I enjoy your website and have subscribed to it. I am a learning a lot from it. I am 25 am have found my passion in real estate investing. I bought my first condo two years ago and hope to buy one another one within a year. I want to focus on property management. Thanks for such an informative website.

Posted on Thursday, June 12th, 2008 at 11:38 PM.

Patrick wrote:
One correction about buying a trustee's sale auction - the bank that holds the first mortgage is the forclosing entity and they don't care about subordinate liens when they consider the starting bid price - at least that is the case for the ones I have examined. I can understand this when the subordinate loans are with other banks, but it is the case when second mortgages are even with the same bank. I have heard that some banks actually mark the starting bid to market, making it lower than the mortgage owed; though I have never actually seen this.

This is one of my big peeves with Mortgage holders: They are required to mark their assets to market value on their financial statements, but by not actually auctioning the homes off at market value, which by definition would cause most to sell as long as the auctions were advertised well, the inventory continues to build and price deterioration continues.

Why do these companies do this? There are many reasons that they do not want to hold onto real estate at all, but I won't go into those. The short answer is Wall Street. These companies are hoping that the market turns just a little. If that happens they will lose less money than their marking assets to market write downs and these would generate write-ups and a positive earnings surprise. This would make their stock price go nuts and the executive management team would get large performance bonuses. However, with the inventory continuing to increase, credit requirements for buyers to get loans being a bit tight, and now interest rates shooting up...this is only the time to buy for sophisticated investors and people that want to get a home they are planning to live in/keep for at least 7 years.
Anyone else have an opinion?

Posted on Sunday, June 15th, 2008 at 8:58 AM.

billddrummer wrote:
To Patrick,

In my experience, any of the mortgage holders have the right to foreclose, not just the first mortgage holder. The difference with a subordinate lender is that they will have to 'cure' the first mortgage (essentially pay it off) to acquire control of the property. With values so much lower than just a couple of years ago, it's not feasible for most second or lower mortgage holders to foreclose. Frequently they lack the resources to step up to a large first, and will generally settle for a fraction of what they are owed and take the loss.

Now as far as your idea that Wall Street is behind the foreclosure phenomenon, I respectfully disagree. Last year, when the MBS market went through its crash, investors were attempting to hold out for higher prices on foreclosed properties. But if you look at current statistics, about 60% of closing are coming from the REO inventory--in other words, banks are more willing to deal than they were 6 months ago. The problem now is finding qualified buyers, since mortgage options have been slashed by lenders, and borrowers now need to prove income, assets, reserves and good credit to qualify for mortgages, unlike before.

This phenomenon will persist until inventory gets worked down to a balanced level. And with over a year of inventory available (in some price ranges, years of inventory available), I think it will take a long time before we see a balanced market here.

In the meantime, rent.

Posted on Tuesday, June 17th, 2008 at 4:25 PM.

mitch wrote:
Gary - when a home is auctioned through a "Trustee Sale" which is done at the local county, the starting price is set at the total of all outstanding liens on the property plus expenses for the bank. This includes all mortgages, back taxes, and administrative fees. Because most of the homes at this stage are "underwater" with their mortgages, essentially no homes are sold at the county auctions in the current market. Also, the price can only be accepted OR bid UP, not down.

Posted on Tuesday, September 9th, 2008 at 10:10 AM.

billddrummer wrote:
A follow to scott,

It's legal all right, but you typically have to wait several years (in NV, I believe 2 years from the default date) to step in and purchase the home. Lenders know the timeframe, and if they have initiated a foreclosure action, typically the lender gets title prior to the tax lien grace period. The "testimonials" may be true, but they don't tell you that the process started years previous.

Like many things advertised at 2 AM, if it sounds too good to be true, it probably is.

Posted on Tuesday, September 9th, 2008 at 10:33 AM.

Gary wrote:
When the bank puts a home up for auction, at what price do they start out at?
Thankyou, Gary

Posted on Tuesday, September 9th, 2008 at 3:59 PM.

Patrick wrote:
Bill -
Yes any lienholder has the right to foreclose. My point was that the starting price of Trustee auctions is the first + trustee fees; this is weird because the first lienholder will still follow this formula even if they hold a second on the property also.

Wall Street is behind this debacle to the point that if assets were marked to market and sold at market prices - there would not ever have been the glut of inventory on the market (and without the inventory this would not be a crisis of the level that has destabilized the wealth of Americans and our entire economy. Don't get me wrong, many people would be affected, but not anywhere near the number and severity that has been affected now.). These properties would have been sold at Trustee auctions and in essence never gotten to the MLS market at all. Companies are not marking properties to market, if they were most would sell at auction not the ~1% that is currently selling at auction (this number was gotten from talking with the investors that professionally attend the trustee sales looking for the very few deals that have some equity potential at the trustee auction starting bid). Further, mortgage holders simply are not foreclosing - deliquencies are left unreported for up to two years. Traditionally this period is 90 days; financial institutions are doing everything they can from taking on properties and this is fraud - see Fanny and Freddie as the ones who got caught in this and many other unethical/illegal practices.

Finally, I thought you were right about loans as well, but the pressure for profit by these companies is too great. Some lenders are doing {REQUEST:comment_body} down loans, qualifying people with bad credit, no jobs, etc. I just bought a downtown condo and got a loan with one of the most reputable lenders and I didn't have to verify employment, assets, income and I could have put very little down, but did 20% to not pay mortgage insurance. I was stunned by this personal experience and the conversations I have had with those in the mortgage industry.

Posted on Friday, September 19th, 2008 at 12:08 PM.

Diane Young wrote:
How are bankrupties handled? Are they the same after the auction and bank resubmission on the market? Thanks, Diane

Posted on Tuesday, October 28th, 2008 at 12:14 PM.

mitch wrote:
Diane - a bankruptcy would be administered by court and would require some form of court approval. I am not certain how legal priority would be established if a bankruptcy and foreclosure proceeding were proceeding at the same time. This would be a good question for a lawyer.

Posted on Tuesday, October 28th, 2008 at 12:16 PM.

billddrummer wrote:
Diane,

My home entered foreclosure in January 2008, with an initial Trustee's auction date of May 26. The day of the auction I filed a voluntary Chapter 11 petition, and the bankruptcy court granted an automatic stay for 45 days, to allow me to submit a Plan of Reorganization to the bankruptcy trustee. The current bankruptcy laws don't permit the court to alter the terms of an existing mortgage. However, the stay allowed me time to find another place to live. The lender petitioned the court to lift the stay, which took another month or so. The lender was unwilling to alter the terms from their end, so I moved out. The lender was granted a lift stay, and the sale was finally completed in September.

As far as priority, the bankruptcy court, being a Federal jurisdiction, has priority over state and local actions with respect to foreclosures and trustee's sales. However, if the local jurisdiction appeals the lift stay, the court recuses itself and allows the trustee's sale to commence.

I'm not an attorney, but I have had some experience with these situations.

Hope that helps.

Posted on Tuesday, October 28th, 2008 at 3:55 PM.

billddrummer wrote:
Diane,

As a followup comment, if the bankruptcy estate includes the property, but it's sold at auction, the debtor typically files a new plan that excludes the property. Often, if the bank books a loss on the trustee's sale, there will be a deficiency remaining on the original mortgage. That deficiency can be included in the bankruptcy petition, but it then becomes an unsecured debt.

Some states (CA in particular) prohibit a bank from filing a deficiency judgment after a trustee's sale. This is most typically called the 'single action rule.' Under CA law, the act of selling at a trustee's sale is the single action, and no other steps can be taken against the borrower to recover any loss.

Again, I'm not an attorney. I got my knowledge from working in commercial lending in NV and CA over the past 20+ years.

Posted on Tuesday, October 28th, 2008 at 3:56 PM.

scott wrote:
Thanks for the info, really great and simple to understand. I see on TV about the following:John Beck - Free and Clear Real Estate TV System for Amazing Profits with Tax Lien Certificates Properties... Is it true? Does it actually work? What do the houses look like that you get? Is it legal? Anyone know?
Thanks.

Posted on Wednesday, October 29th, 2008 at 7:20 PM.

billddrummer wrote:
To Scott,

It's legal, and it does work.

Having said that, it typically takes several years for the tax lien certificates to mature. In Washoe County, the liens aren't eligible for bidding until after 2 years, I believe. And it's similar in other jurisdictions.

The problem is, if a tax lien certificate is out there, typically a lender is too. It usually only works for properties that don't have mortgages--cases I've known about are from estates where the owner passes away without heirs to manage their affairs. If an unencumbered property is included in the estate, it would depend upon the laws governing probate and property transfer in that jurisdiction. (I'm not familiar with estate law.)

But back to your comment, IF you can find an unencumbered property with just a tax lien on it, and IF you can watch the property for the amount of time it takes to qualify for bidding, and IF you are the successful bidder, THEN you would control the property.

But consider what condition the property would be in if it had been neglected for 2 or more years. You might be able to get a home improvement loan to fix it up, sell it, then pay off the loan with part of your sale proceeds, but that would take additional time, in my opinion.

I think it could work, but you know the old saying, "If it sounds too good to be true, it probably is."

I'd stay away, but that's just me. If you have the patience, I suppose you could make a profit. But you would have to factor in your time for the entire time you worked the property--from locating, waiting, rehabbing, marketing, and selling it. And you would have carrying costs while this was happening, not to mention your own living expenses.

Perhaps as a hobby, not as a profession.

Just my opinion, though.

Posted on Tuesday, November 4th, 2008 at 9:43 PM.



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