Why You Should Buy a Distressed Property
One of the biggest opportunities in real estate is buying distressed properties.
In the context of Real Estate, the word “distressed” means any property that is either in or about to go into foreclosure. This is typically due to the property owner no longer being able, or willing, to keep making the mortgage payments. Additionally, as the word implies, a distressed property is often in need of repairs. Because the properties usually need repairs, if you do not do your due diligence, distressed properties can carry significant risk.
Typically, the more work a property needs the better a bargain it is as the rule of home equity states the value of your property goes up as your equity increases. However, this is only true if you do it correctly and are ready, willing, and able to make the needed repairs. Repairs may be merely cosmetic, like a new paint job and cleaning, or can be extensive, such as requiring structural and mechanical work. The latter reason is often the case a homeowner chooses to stop making the payments and just walks away from the property.
Distressed properties are often great opportunities for real estate investors as there can be big money in buying, rehabbing, and selling these “fixer uppers.” So much so that some experienced real estate investors often focus solely on distressed properties. Distressed properties can also be a great opportunity for first-time homebuyers as this option can save you thousands of dollars if you are willing to invest the sweat equity.
Locating Distressed Properties
The first step in buying a distressed property is locating suitable properties. Typically, the more leg work you are willing to put in yourself the better deal you will get. For example, if you go out and drive around looking for properties in disrepair that are not yet in foreclosure, then you may be able to negotiate a better deal with the owner than you would by going to a bank or real estate agent after the foreclosure process. This is because the price can go up once the lender forecloses and hires a realtor to list the property. Look for these indicators when driving the neighborhoods:
- • Unmaintained or vacant property.
- • An old house with a dilapidated exterior.
- • Uncollected mail.
- • Neglected yard.
- • Posted foreclosure notice.
Once you have located suitable properties you can try just knocking on the door and see if the owner is interested in selling. A second option is taking your list of properties to the city hall. Real estate records are public by law and you will be able to get the information on who the current owner is and how much they paid for the house.
Another option for locating distressed properties is to call lenders and real estate agents and ask if they have any “REO” properties in your area. REO stands for real estate owned by lenders and lenders in most cities will usually have some of these distressed properties on their books. Working with a real estate agent may be a better option in some cases as an agent will have more information on a property than you may be able to discover on your own. Just know that the listing agent’s responsibility is to the seller, so if you want a real estate agent who will look out for your interests you should consider talking to a “Buyer’s” Broker.
Another way banks sometimes deal with distressed properties is with a “short sale.” If a homeowner is in arrears with their payments they will try to sell the house for less than what remains on the mortgage contract just to get out from under it. Here the lender is willing to take a loss on the sale to avoid the hassle of foreclosure. Short sales are often used in areas where real estate prices are so depressed that there would be little to no chance of selling the home for what is left on the mortgage contract.
A third option is to watch for real estate auctions. Auctions are often held for distressed properties that haven’t sold through the typical channels and the lender just wants to get the property off their books. While oftentimes there will be steep competition for a property at auction, sometimes you will be the only bidder and you can walk away with a great deal. However, you need to be extremely careful when buying at auction as often times the houses are sold “sight unseen.” This is especially true if participating in an online auction. Buyer beware!
Financing Distressed Properties
Many times a traditional lender will not be willing to finance a distressed property. This is because of the risk factors and it can often be very difficult to get an accurate assessment, or appraisal, of the property to determine its value. Additionally, many auctions will require an “all cash” payment due to policy or state law. However, if you can negotiate a very good price, some lenders will write a new contract to avoid having to go through the foreclosure process. Another financing option is to work with a nontraditional lender that specializes in distressed properties. Just be sure you understand all the finance charges before signing.
In most cases, it makes more sense to rehab a property, either to live in or flip for a profit, then to build a new home. With permits, weather, and construction delays, it can often take a year or longer to build a new home. However, rehabbing a distressed home can be done in a few months. Just be sure you do your homework and have a firm understanding of the rehab costs vs. the expected value of the property when the rehab is complete.