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By Rick Sharga, RealtyTrac
Vice President of Marketing
Buying a property at a
public foreclosure auction is not for the faint at heart. It usually
requires patience, persistence and a fair amount of cash, since most
state foreclosure laws stipulate that the winning bidder pay all or
part of the winning bid on the spot.
But for those willing to
do the work and able to front the cash, auction properties can yield
bargains of 20-40 percent below the market value, and sometimes even
more. Like any high-yielding investment, foreclosure auctions come
with a certain amount of risk. Managing that risk successfully
depends on first doing thorough research on the properties you plan
to bid on—perhaps the single-most important step in a successful
and profitable auction purchase.
“You’ve got to know
the property inside and out and you’ve got to know that the party
who is auctioning the property is, in fact, in the first lien
position,” said T.J. Marrs, a real estate investment trainer and
author based in Vancouver, Wash. Since many properties may have
multiple liens (first and second mortgages or tax liens, for
example), this is a critical piece of information to have before the
auction begins. Marrs added that if the party auctioning the property
is not in the first lien position, the winning bidder may have to pay
off other outstanding loans against the property.
It helps that researching
properties has become much easier with advances in information
technology. In the past, home buyers and real estate investors sifted
through piles of documents at the local courthouse to properly
research properties. But thanks to online services like RealtyTrac,
you can accomplish extensive property research from home or anywhere
else you happen to be, as long as you have an Internet connection.
That doesn’t mean you
will feel comfortable interpreting all the data available from this
research. First-time auction buyers or investors may be wise to rely
on a local real estate agent or real estate attorney to ensure
they’re making good decisions about which properties to bid on and
how much to bid. Contact
an Agent using RealtyTrac’s
Agent Network.
Whether working with a
real estate professional or not, you can follow this property
research checklist to make sure you’re fully prepared when you
attend an auction.
Research state laws and
observe a local auction
Each state governs how the
foreclosure process – and specifically the auction – works in
that state. The process can vary widely from state to state, so
aspiring buyers or investors should study the foreclosure process in
their state. Important factors to consider are how quickly a property
can go to auction after the owner defaults, how much cash is required
at the auction and if the owner has any redemption period after the
auction.
In some states a property
can be sold at auction less than a month after the owner defaults,
while in other states the foreclosure process can stretch out more
than a year, not including any redemption period. The length of the
foreclosure timeline certainly influences how quickly you need to
research a property and secure the necessary cash to bid at the
auction.
If there’s a redemption
period, the former owner can typically buy back the property by
paying the full amount of the winning bid (plus any applicable fees
and penalties) during the redemption period. If you’re the winning
bidder, you should wait until the end of the redemption period before
sinking any additional capital into a property purchased at the
auction.
RealtyTrac’s
state foreclosure summaries
provide specifics about how the foreclosure process works in each
state.
First-time auction buyers
should attend a local foreclosure auction to observe how state
foreclosure laws play out in the real world. RealtyTrac provides a
daily updated list of properties nationwide that are scheduled for
public foreclosure auction. Auctions are often postponed or canceled,
so it’s a good idea to call the trustee or attorney listed on the
day of the auction to confirm.
Secure financing
Before bidding at an
auction, you’ll need to evaluate the cash you have available to
spend on an auction purchase. In addition to considering liquid
assets such as bank accounts, stocks and bonds, you can apply for a home
equity loan to cash out the equity
in your home or other real estate assets.
Once you calculate the
cash you have available, you can determine how much of that cash you
feel comfortable using to purchase an auction property. Of that
amount, you will need to set aside some for estimated repairs and
some to pay off outstanding liens that survive the auction purchase
(although if you purchase the auction property below market value,
you may be able to take out a home equity loan on the newly purchased
property to fund repairs.) The remainder of the cash can be used for
bidding at the auction.
Some states require as
little as 5 percent of the purchase price in cash at the auction.
Others require the entire purchase price in cash. Either way, you
will need to present the necessary cash at the time and place of the
auction, usually in the form of a cashier’s check. That means you
should be ready to withdraw your cash quickly when an auction
opportunity arises.
If the winning bid is
below the amount of the cashier’s check presented at the auction,
the trustee at the auction should reimburse the winning bidder for
the difference, although reimbursement may take several days or
longer. Many bidders bring several cashier’s checks in incremental
amounts so they avoid having to wait for a substantial reimbursement.
Analyze market value
Once you’re comfortable
with how the foreclosure process works in your state and your
spending limit, you can dive in and start pursuing specific auction
properties. For any property scheduled for auction, the first step is
to compare the property’s estimated market value to the opening
bid.
The opening bid is the
total amount owed to the foreclosing lender and is the minimum amount
the property will sell for at auction. This amount is included on the
public auction notice and on each auction property listed on
RealtyTrac. In addition, RealtyTrac arms subscribers with each
property’s estimated market value and a list of up to 15 recent
comparable sales.
If the opening bid is
higher than the estimated market value, that particular property does
not present a bargain-buying opportunity. But because of the hot real
estate market in most areas, the opening bid is usually far below the
estimated market value, making for the possibility of a profitable
purchase.
A quick market value
analysis is just the beginning, however. You need to dig deeper to
find a property’s true investment potential.
Check lien and loan
history
Before bidding a dime at
the auction, it’s important that you carefully research a
property’s title for any liens and loans that won’t be cleared
out by the auction sale. All liens and loans affecting a property’s
title are available at the local recorder’s office or online
through RealtyTrac.
Unlike typical real estate
purchases, auction sales don’t always transfer ownership of the
property with a clear title; therefore, it’s possible for a buyer
to purchase a property at an auction and still have to fork over
additional funds to clear out other outstanding debts secured by the
property. You might be willing to do this, but you need to know about
any outstanding debts before the auction so you can set your maximum
bid appropriately.
To determine which liens
and loans will be cleared out by an auction sale, you should look at
the priority of the liens and loans taken out by the current owner.
Priority is typically determined by the date when the lien or loan
was recorded. The first recorded takes highest priority and the most
recently recorded takes the lowest priority.
The defaulted loan that
triggered the auction sale typically clears out any “junior liens”
that have a lower priority. There are a few exceptions such as
property tax liens, which take priority over all other liens and are
not cleared out by an auction sale. Any “senior liens” that have
a higher priority than the defaulted loan will usually continue to
encumber the property after the auction.
Property title research is
probably the most complex and technical part of the auction-buying
process, and it’s impossible to overemphasize its importance to a
profitable auction purchase. First-time auction bidders should
seriously consider enlisting the help of a local real estate agent,
attorney or Title Company for this part of the research.
Estimate needed repairs
Estimated repairs should
be factored into any property purchase, but there’s an added twist
with auction properties: in most states, auction bidders don’t have
any opportunity to view the inside of the property before they bid,
let alone hire a professional inspector inspect the property. You may
be able to approach the current occupants and ask permission to view
the inside, but that permission is not guaranteed.
While this makes it
difficult to pinpoint exact repair costs, you can obtain a ballpark
estimate just by viewing the property from the outside. You will be
able to infer a lot about the property’s overall condition by
observing the condition outside. Serious buyers will park their cars
and walk by the property and around the neighborhood, also looking
for neighbors as potential sources of information. You can also check
natural hazard reports to see if the house is located in a zone that
makes it more prone to flood, fire or earthquake damage.
Still, the exact cost of
repairs is unknown, and you should leave some extra margin for profit
in your maximum bid in case repair costs escalate above your
estimate.
Calculate your maximum
bid
The maximum bid is simply
the amount a buyer is willing or able to pay at a public auction.
It’s important that you set a maximum bid before the auction to
make sure you don’t get caught up in the emotion of a bidding war
and end up overbidding.
Marrs, the real estate
investment trainer and author, recommends setting a maximum bid of
60-70 percent of the property’s market value as a general rule of
thumb. This amount may vary based on the local real estate market
conditions. From this baseline bid amount, you should subtract
estimated repair costs and any outstanding liens and loans that
aren’t cleared out by the foreclosure sale.
At the auction, stick to
your maximum bid and don’t be influenced by other bidders.
Sometimes the foreclosing lender or junior lien holders will bid at
the auction to make sure all of their debts and costs are covered by
the winning bid. This can sometimes inflate the winning bid close to
market value, eliminating any chance at a great bargain.
Of course, the bidding
will go up incrementally, so you shouldn’t immediately jump to your
maximum bid. Continue to go up incrementally until you reach your
maximum bid or are declared the winning bidder.
You should consider
foreclosure auctions, whether you’re looking for a great bargain on
a home for yourself or entering the real estate investment arena.
Auctions aren’t for all buyers, but with the proper resources and
the right research they can be a prime opportunity to purchase
property below market value.
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