Foreclosure Investing

Foreclosure Investing

Definition

Investing in foreclosed properties as a way to make a profit utilizing affordable, below-market homes. These homes can usually be sold for higher prices due to the bargains achieved during foreclosure.

Why Invest in Foreclosures?

Investing in foreclosures is by far one of the most popular real estate activities today. With more and more people getting behind on their house payments due to a lagging economy and difficult job market, more homes are going into foreclosure with every passing day. Savvy investors are able to take advantage of these great deals by knowing what to look for in the market.

Investing in foreclosures has many different benefits. Here are some of the top reasons why people are clamoring to get their hands on these incredible deals:

  • It's the best way to buy cheaper real estate properties.
  • You can get instant equity if you buy for the right price.
  • There are lower mortgage risks.
  • No developer risks.
  • There is the potential for quick profit by reselling the property.
  • There is the potential for getting immediate rental income by putting tenants in the home.
  • There could be a huge capital gains potential depending on the area.

Mortgage Overview and Investment Preview

When looking at foreclosure investing, it's important to understand the mortgage document itself. The mortgage agreement is specifically a binding contract between the lender and the borrower. It lays out all of the payment information including the terms, such as interest rate. There is a set schedule that the debt must be repaid within. Each party is bound by the agreement.

Mortgages can range anywhere from 10 years to 40 years for repayment. Both the borrower and lender are bound by certain obligations under the agreement.

One of the documents often signed at the closing table is called the deed of trust. It's signed by three parties including the lender, the borrower and a trustee. It includes the original loan amount, the names of the parties, the legal description of the property, mortgage requirement information, the beginning and ending date of the loan as well as other legal procedures including late fees and acceleration clauses. States that do non-judicial foreclosure typically use the deed of trust.

What Investors Needs to Know About Foreclosures

Before investing in foreclosures, buyers need to understand the process. The first misconception that needs to be overcome is thinking that investing in real estate doesn't take any money. It actually does require money as well as knowledge, time and perseverance. Even if you can get into a real estate deal creatively without any upfront cash, you will still need money to maintain, and possibly rehab, the property. You will likely need money to pay the monthly debt obligation until you either rent or sell property, as well.

Another important factor when you are thinking about investing in foreclosures is you need to understand the legalities for your specific state. There are two different kinds of foreclosure, and it varies from area to area.

The Overall Foreclosure Process

Some states use a judicial foreclosure process whereby the lender must go through court proceedings in order to foreclose on a homeowner. This can lead to the ability for the homeowner to stay in the property for many months before finally being evicted through foreclosure. Many of these states also have long redemption periods where the borrower can get the home back even after an auction.

Other states use non-judicial foreclosure where the lender only has to advertise the property in the legal newspaper for four consecutive weeks. Then, if the homeowner has not brought the payments current, the lender can go ahead and foreclose on the courthouse steps at the beginning of the following month.

There are other foreclosure processes that you also want to be aware of:

  • Decree of sale: This term simply means that the court has instructed that a property be sold in order to pay off outstanding debt.
  • Strict foreclosure: Many states do not allow for strict foreclosure. In fact, only a few do allow it. This procedure allows the lender to file a lawsuit against a defaulting homeowner. If the borrower can't pay the mortgage within a certain timeline that is outlined by the court, the property goes directly back to the lender instead of being sold at auction.
  • Entry and Possession: This is another rare type of foreclosure that allows the lender to enter a property and take possession for specific period of time. At the end of that time period, the lender becomes the full owner of the property.
  • Power of sale: The power of sale foreclosure is when the mortgage holder is allowed to sell the property without any supervision from the court. This happens in non-judicial foreclosure states.
  • Executory foreclosures: An executory foreclosure is when the mortgage paperwork states that the borrower understands the full consequences of defaulting. This allows the lender to foreclose easier without the need for judicial proceedings since there would be no legal basis to contest the paperwork.

Foreclosure Stages

  1. Pre-foreclosure: This is the earliest stage of foreclosure where the homeowner still has the opportunity to catch up their outstanding debt. The length of this stage can vary from state to state depending upon the lender and foreclosure laws in the area. Some sellers may choose to go through a short sale process in order to have the ability to sell the home for less than what is owed without having a foreclosure on their credit.
  2. Auction: The auction process takes place after a home has been foreclosed and taken back by the bank. Again, the process varies from state to state, but generally speaking the property will be auctioned off on the courthouse steps or at a sheriff's sale. If no one purchases the property at auction, it will go back into the bank's inventory to be listed by a real estate agent at a later date.
  3. Redemption period: Some states have a redemption period where the homeowner can still get the property back after the auction. However, there are also many states that do not have this redemption period available.
  4. The REO: This is considered to be the post-foreclosure period. The property was foreclosed, taken to auction and not sold to a bidder. The lender takes the property back into inventory and lists it with their preferred real estate agent.

Foreclosure Timeline

When purchasing a foreclosure, it would seem pretty cut and dried that once you are the owner you can do whatever you want with the property. In fact, this is not necessarily true. Remember that foreclosure laws vary from state to state. A large portion of states have some kind of redemption period which would allow the homeowner to redeem the property days, weeks or even months after you have purchased it.

Some states have very long redemption periods, such as New York, where the former seller could come back 445 days afterward! That can make the purchase of a foreclosure particularly risky for buyers. Therefore, it's very important to understand the legalities in each individual state. Most investors prefer to look for states that do nonjudicial foreclosures and have no redemption periods.

Pros of Investing in Foreclosures

There are many great reasons to invest in foreclosures. For one thing, foreclosures typically sell for about 20% less than their counterparts. You can pick up REO homes with high sales potential from lenders who are just too busy to mess with them. Working with foreclosures is a specialized area which allows you to become an expert so that you can have your own little area of real estate to work in.

Important Tips to Remember

In conclusion, remember these important tips about foreclosure investing:

  • Foreclosure investing can require a lot of sweat equity.
  • You are working against time with the foreclosure schedule. Plan things out and you won't fail.

Be nice when approaching homeowners in distress. Remember that you are working with people who may not be at their best because they are going through a very difficult time. They are losing their homes, and they may be quite upset and angry about it.

FAQ about Foreclosure Investing

  • It is possible to purchase a home with no money down, which is the closest you'll come to making money in real estate with no money. You can get the seller to finance your down payment, borrow the amount for the down payment, or work with a partner. At some point, though, you will have to invest something into the property to turn a profit.

  • It can be worth it to invest in non-performing mortgages if the value of the underlying property is greater than the balance of the loan, and if there are no major liens on the property. They can be risky, though, and some think it is safer to invest in a performing mortgage instead.

  • If you pay in cash, you can invest in any property you desire. Obtaining financing, though, may be difficult if it has been less than seven years since your foreclosure. Many banks will not approve loans for those who have foreclosures on their record, even with a substantial down payment on the property. Consult specific lenders for more details.

  • You can obtain financing for foreclosure investing just like you would for traditional real estate investing. If you can obtain a pre-approved line of credit to go foreclosure hunting from your lender, that will help. You can also find a particular foreclosure you are interested in and get pre-approved from your bank for that specific property, just like if you were buying a property.

  • Typically, buying a foreclosure with nothing down means paying for the home in full, with cash or other liquid assets. Before the market crash in 2007, it also meant either obtaining a 100% financed loan from a lender, or flipping the foreclosure and carrying the balance of the loan through to closing so you did not have to pay anything out of pocket. Those days, however, are no longer here; virtually no reputable lender still offers 100% financing. Home loans require some down payment, with the lowest down payment on the market coming with the FHA 3.5% down home loan.

    The only viable way to buy a foreclosure with nothing down is to take out a home loan guaranty from the Department of Veterans' Affairs (VA). The VA home loan allows you to obtain financing from your lender of choice with no down payment, provided you meet the requirements for the loan from the lender and from the VA. These loans are only for veterans and their family members, however, so most people cannot take advantage of them.

  • The opportunities for investing in foreclosures and real estate are endless and limitless, capable of allowing someone to live comfortably and earn a substantial living. This is because real estate is always in demand and is always needed. And ever since the market crash of 2007, foreclosures have risen dramatically, providing numerous opportunities to obtain a valuable home at a discounted price and re-sell it a year or two down the road, when prices are expected to be higher.

    That option is for those who want to invest in the property itself and make money by buying and selling. One can also invest in real estate investment trusts (REITs), which are basically companies that invest in real estate ventures much like mutual funds are ways to invest in stocks, bonds, and other assets. Purchasing stock in real estate companies or even real estate databases/directories is an additional option. These entities are traded publicly on the stock market and offer the same benefits as regular stocks, except with exposure to the real estate industry.

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