There is confusion sometimes between a home in foreclosure, a bank owned home and a short sale. All of these are opportunities to find deals in the real estate market but each present different challenges and benefits. Let’s quickly define when a home enters the different stages in the foreclosure process.
Short sale period = Default Payment to Public Auction
Foreclosure = Property is publicly auctioned and ownership is transferred either to the winning private party bidder or to the bank that held the mortgage.
Bank Owned [REO] = After the auction the property has officially transferred ownership to the Bank. (REO = Real Estate Owned)
When a homeowner becomes delinquent in paying their mortgage, the bank or financial institute that holds the mortgage has the right to issue a public notice of default. In El Paso County the majority of mortgages are held in trust by the El Paso Public Trustee. This allows the banks to foreclosure on a property through the use of the public trustee without burdening the judicial system. As soon as the bank gives public notice (aka NED – Notice of Election and Demand) that the homeowner is in default the home is considered in the process of foreclosure. When a homeowner is in default but before the home has gone to the foreclosure auction there are several options for the owner. First off they can cure the default by paying off the missed payments and any penalties associated with the default. This will cause the foreclosure to be rescinded and the homeowner will maintain possession of the property. If the homeowner is not able to come up with the money owed one option they have is listing their home for sale as a short sale. A short sale is when the owner sells a home for less than the amount owed on the mortgage. In this situation the bank will receive all proceeds from the sale and they have to agree to receive less than the amount they are owed by the homeowner. This can be a tricky situation but also can be a benefit to all parties involved. Through a short sale the owner of the home receives the benefit of not having a foreclosure recorded on their credit history. This will allow the homeowner to potentially qualify for a new home loan in two to three years compared to the seven year waiting period for a foreclosure (please know that these timeframes can very depending on individual circumstances and finances). Also for the majority of primary resident homeowners they will not be held responsible for the deficit between the sale amount and the balance on the mortgage owed to the bank because currently the U.S. tax code allows exemptions from capital gains on your primary residence ( See IRS Publication 523, please consult a licensed accountant for all tax advise).
A short sale can be an extremely attractive deal for a buyer as they will be able to buy a home for less than the last purchase price, but these buyers have to be willing to have the flexibility and patience that sometimes come with the lengthy timeframe involved in a short sale. Short sale offers and contracts take longer than conventional sales because a bank representative is involved in the negotiations and contract signing. Sometimes short sales can take six months or longer to close because of bank inefficiency and other unforeseen circumstances. Some banks are quicker than others with their turn around time and with some agent persuading, short sale deals can get done in as little as 30 to 90 days. Unfortunately most buyers have specific timeframes that they need to buy a house and cannot wait for an indefinite amount of time when working with a bank. This is why many home buyers do not take advantage of short sales.
If the homeowner has not cured the deficit in the allotted timeframe and a short sale did not occur, the home will proceed to the foreclosure auction on the date specified on the Public Trustee’s website. The foreclosure auction is a public auction held at the Public Trustee’s office. At the auction the bank holding the mortgage will submit their initial bid a few days before the auction. In El Paso County the foreclosure auction is held every Wednesday and all initial bids are given to the trustee by the Monday preceding. The initial bid can very depending on the banks situation and policies. The most common initial bid is the price that the bank is still owed. The bank’s maximum initial bid is the amount that is owed on the mortgage plus any penalties and legal fees they may have incurred. Most of the time these houses are under water (owed more on it than it is worth) and if the bank’s initial bid is listed at their maximum they will not get bid on by any public bidders. Sometimes the bank is willing to take less than the amount they are owed and will list their bid lower than the owed amount in hopes that an investor or private homeowner will buy the house at the auction. Financial institutions will lower their initial bid for several reasons some known and others unknown. One idea is that the bank is willing to take less so they can offload the property quickly and not have to take ownership of it and hassle with the relisting of it for sale. Remember they are in the business of finance not property management. Another factor might be the bank taking a tax advantage by the writing off of the amount lost. Again reasons vary between banks for why some list their initial bids low and others do not. All bidding instructions are explained in detail on the Public Trustees website. There are two primary reasons that the average homeowner does not buy a home at an auction. The first is the fact that the entire purchase of the home has to be bought in cash, no financing available, bring your cashier’s check for the sum of 6 digits. The second fact is the purchaser of the home is never allowed into the home before they buy it. One of course can drive by it and look at it from the road but the fact is you cannot even peek through the windows as this is trespassing. So for these two reasons buying a home at a foreclosure auction can be a risky endeavor as you are buying a house in As-Is condition for a lot of cash. You also have to be certain you are bidding on a lien in the first position as opposed to a lien that may be subservient to the first. If you do end up bidding on a second lien (and you may know this as you may be the only one bidding) then you might have just thrown away your money as the first lien will still have the right to take possession of the property.
Bank Owned / REO
If a private investor does not purchase the property at the foreclosure auction the property will change ownership from the homeowner to the financial institute. The bank will then hire a Real Estate Agent to sell the home for them. Each bank usually has specific real estate companies that they work within certain regions. The time between the auction and when the property will become available to purchase from the general public can range from 30 days to 120 day on average. If you want to become immediately notified of when a certain property will be listed for sale from a bank contact a Realtor and they will be more than willing to set up an automated notification system of when a property is listed for sale. Again bank owned homes can be an excellent deal for a home buyer as they are usually listed for less than the average market rate but with this saving comes certain risks. Since the representatives of the bank never lived in the home they are not able to present a Seller’s Disclosure of the Property and they have to sell it in As-Is condition. You may not be able to know if the basement has ever flooded or if the roof leaks. Also the property will have been vacant for some time and properties not cared for can fall into disrepair (i.e. frozen pipes, dead landscaping, and peeling paint). Hopefully the pros outweigh the cons and the lower purchase price will offset any fixes or upgrades that have to be done to the house.
I believe that if you are looking to scoop up a deal in the real estate world purchasing a home in short sale, foreclosure or bank owned can be a great opportunity.