A Crash Course in Pre-foreclosure Sale and Short Sales
Published 6:30 am 11 Sep 2020
- Introduction to foreclosure
- What are Mortgagee repossessions
- Foreclosure Properties
- Buying Pre-Foreclosure Property
- Risk buying a foreclosure property
- What causes a mortgage foreclosure
- How do foreclosure auctions work
Regardless of the property market conditions in Australia at any given time, 1% of entrepreneurial investors are capitalising on bank repossessed homes for sale.
Savvy investors make their enquiries, and through their due diligence can analyse current market conditions. Banks have been greedy and have lent too much with little or no lending criteria or responsible lending practices in place.
This means that since the Global Financial Crisis in 2008 when banks stopped lending many Australian homeowners have hit the wall. For the first time in the Australian housing market, a significant number of home loans in good areas are underwater.
We have never had this situation before as house prices have always gone up or, at the worst plateau for a little before growing again, but we are now experiencing falling values. This is a perfect storm for those wanting to grow a property portfolio quickly for their retirement.
People buy a home than for any number of reasons they stop making payments, and the lender has to sell the property. Although there are certainly a few more steps involved in the process, the skill is learning how to make money between the steps.
In this blog, I will take you through a crash course on the foreclosure repossession process to help you start to identify where real opportunities lie.
What are Mortgagee Repossessions?
For those who are interested legally, the distinction is that with a foreclosure, the lender goes through the legal process of getting the borrower off the title to the property and putting themselves on the title deed as the owner of the property.
With mortgagee repossession, the lender gets a Court order to take over the property and sell it, but the owner remains on the title deed. In reality, lenders do not bother to “foreclose” and get themselves on the title, they take the property as a mortgagee in possession and try and sell it as expediently as possible whilst still achieving the highest possible market price.
By law, banks cannot undersell the property or even advertise it as a mortgagee or fire sale. If they foreclose, banks cannot chase the borrower for any shortfall. With repossession, the borrower is still on the hook for the difference between the sale price of the property and the amount owed.
If the homeowner is in arrears on their loan, the bank will prefer to repossess the property, sell it and then chase the borrower for any shortfall.
There are many reasons why foreclosure properties are repossessed. The process can be broken into three primary phases:
- Pre-foreclosure sale
- Short Sale
- Mortgagee Sale
The process has never been taught or practised before in Australia, simply because we have never had market conditions such as these in the past.
Some terms are not known vocabulary in the distressed real estate market. So don’t go quoting to a bank or lender that you want to do a “short sale” or a “pre-foreclosure sale”, the bank won’t know what you are talking about.
I have borrowed the terms from the American market where they have been doing this for decades. (They have seen this market before in the late eighties and early nineties during the savings and loan crisis when this system of property investors buying distressed real estate at huge discounts occurred.)
We will use the terminology I have chosen here as distressed asset specialists for ease of reference in our process of finding suitable foreclosure properties. Still, it will be a case of you having to educate the lenders when you go to buy.
What does pre-foreclosure mean?
Pre-foreclosure home is the time between where a homeowner misses his or her first mortgage payment and the date when the bank commences legal proceedings to repossess the property.
During the pre-foreclosure phase is where your efforts will yield the greatest reward.
What is a short sale?
Short Sales are a deal that can be cut with the lender to pay out the loan on the property for less than what is owed on it. The lender agrees to accept full payment for the mortgage debt in an amount that is less than the homeowner actually owes.
- During the repossession process, the lender will always lose money sometimes a great deal of it. With the advent of creative (low doc and no doc) mortgages over the past several years combined with a cycle of soft or declining real estate markets, some homeowners actually become ‘upside down’ on their property.
- ‘Upside down’ means the homeowner can’t afford to sell their property as they owe the lender more than what the property will sell for.
- Currently in Australia, one in five properties in Queensland and Western Australia is ‘upside down’ or “underwater”.
- In these circumstances, many homeowners and lenders are faced with the difficult choice of the lesser of two evils. Can they hold out until the market turns or should they sell up now and cut their losses?
- Most homeowners don’t know that short sales are possible or how to structure a short sale transaction. When the circumstances are right, you will be in a position to help.
What is a mortgagee sale?
A lender sells the property with the owner still being registered on the title. The lender “possesses” the property. The bank appoints an agent and does what is necessary to sell the property.
How does the Real Estate Rescue property investment training course strategy fit with the repossession phases?
The first phase, pre-foreclosure, is where we will be locating our foreclosure properties in the first instance – we can then follow them down the foreclosure path while trying to acquire the property during each phase.
The earlier you get to a deal, the better your chances of paying a good price for the property. Buying at this stage may be both risky and competitive.
During the public auction stage, there has been a lot of attention brought to the property, and the owners have been beaten up and are worn out.
Are there deals out there? Yes, but they take work and luck to get – and the harder you work, the luckier you get.
Properties that are purchased from the lender via a mortgage sale will almost always be bought at auction.
Almost all repossession properties are listed with real estate agents and at regular retail prices. That makes it a little hard to make a profit. Due to the recent rash of repossessions, you may come upon advertised “mortgagee auctions” where banks are offering hundreds of foreclosure properties.
Good deals can be found, but there may also be savvy people at these things, and you are likely to end up losing out as other bidders force the price up.
I would estimate that 50% of properties found at this stage may go above your reserves. It is still worth following every one through though as if you are Johnny on the spot you can bag the deal of the decade.
Banks are required to market repossessed properties through public auction by law and to try to get the highest possible retail value for the asset.
At this point, the property may have already been fixed up, and the lender has taken their loss. They are under no pressure to wheel and deal, and many foreclosure properties end up selling for within 10% of the asking price.
Buying Pre-Foreclosure Property
Purchasing properties at the foreclosure stage offers you several advantages:
- There is less competition since other investors are involved at the public auction stage; you will be able to operate and negotiate with the owner in a more comfortable environment.
- It is far easier to work directly with the owner as opposed to a solicitor or the lender, and you have more time to put together a successful deal.
- There are more options than you can explore with the homeowner, and the costs are generally lower.
Real Estate Short Sale Explained
Yes, there are people you will meet who are in dire situations. You will be tested emotionally and hear some heartbreaking stories. You did not cause it, nor can you necessarily fix it. And you don’t need to take advantage of it to make a profit.
When you are negotiating foreclosure transactions, you should never feel guilty about what you are doing.
If you don’t help the homeowner, then someone else will. Worse still, if no-one intervenes the bank will cause untold damage and heartache for them for many months and years to come.
You are their knight-in-shining-armour.
Many investors will become drawn into a situation and will be tempted to take advantage of sellers. These are small-minded people with a scarcity mentality who like to create a win-lose deal. Please don’t do it; it will end your career quickly.
Always try to help the homeowner.
You are providing a service and should not feel any guilt about doing a deal. In most cases, the bank will end up selling the property, and you are providing a way for the homeowner to gain stability, preserve their credit rating, gain control and avoid additional heartache.
You are saving the bank time and money, and you expect to get paid for your knowledge and experience in solving a problem you did not create.
Nothing I ever suggest or teach in any way should be construed or used for illegal or unethical practices.
Do it the right way, and you will build an excellent reputation and make some good friends along the way.
Risk buying a foreclosure property
There are risks involved in pre-foreclosure investing. Owners at this stage are usually quite emotional or in a state of denial and only want to sell at market value or more.
Dealing with these types of homeowners can be complicated and stressful, and then just as you get a deal negotiated, they can change their mind.
You will also encounter owners who misrepresent or falsify information. That is where doing your homework will come in handy, and we will cover this later in the course.
There are also legal issues and liabilities which may face an investor purchasing a foreclosure directly from a homeowner.
Because you will be purchasing properties at less than market value, your actions could be seen as taking advantage of the distressed homeowner. However, for all the risks involved, you still have the chance to help a significant number of people and make good profits along the way.
What causes mortgage foreclosure?
The common causes of mortgage foreclosure defaults in Australia are:
- Health problems
- Job loss
- Predatory lending
- Rising costs of living
Foreclosures Sales Are Increasing
The biggest reason that foreclosures keep increasing is that Australians can’t seem to live on what they earn and keep borrowing money for things they can’t pay for.
Credit card debt keeps spiralling upward every year, and the homes people purchase (thanks to innovative mortgage products that they don’t understand) can leave them one paycheque away from disaster in every direction.
When a property is foreclosed on, the bank (or the lender) takes control of the property.
Given that banks are in the lending business, they don’t want to hold onto the property, so they are looking to sell it off as quickly as possible. The banks want to recoup their losses and get the property off their books as fast as they can. This is where foreclosure auctions come in.
A foreclosure auction occurs when the mortgagee takes control of the property and wants to sell the property.
A foreclosure auction is usually the process that the mortgagee will use, for several reasons.
- The foreclosure auction process is transparent, and the mortgagee can get the market value for the property quickly and easily.
- The foreclosure auction process is also used because it allows banks, for example, to be seen as being open about the process and remove the potential perception they had sold the property under market value to get their money back.
- A private sale treaty might not have that same level of transparency as a foreclosure auction.
That said, the banks do have a legal obligation to get as much as they can for the property.
Understanding Foreclosure Auctions
One of the key points to note about buying at a foreclosure auction is that you generally have to buy the property as-is.
There is often little room to purchase the property subject to any kind of conditions, and that makes it difficult to negotiate. The mortgagee is simply looking to get the property off their books as quickly as they can.
So as a buyer in a foreclosure auction, you need to be prepared in advance and understand what you are buying. Be sure to inspect the property in closely and do detailed due diligence. Any reports will need to be done before the foreclosure auction.
For those looking to buy at a foreclosure auction in Sydney or a foreclosure auction in Melbourne, they might be more familiar with the auction process as it more common in those states. For those looking to participate in foreclosure auctions in Brisbane, foreclosure auctions in Perth and foreclosure auctions in Tasmania, it’s important to understand the auction process in those states it is not as common as a sale by private treaty.
Another important factor to consider is how you are going to finance the property when you purchase it.
Not all properties purchased via foreclosure auction will be able to be financed by a bank or lender and might need to be settled quickly and even for cash. So be sure to speak with the selling agent and understand the terms. It’s also vital to talk to lenders well in advanced of the foreclosure auction. For example, if a property is badly damaged, it might not be ‘livable’ in the eyes of a lender, and they won’t lend for the purchase.
Because the foreclosure auction process is highlighted by the fact that the property is unconditional at the time of the auction, if you bid for it and win, you are legally obligated to take possession and most importantly pay for it. So it would be best if you were organised and well prepared before looking to buy at a foreclosure auction.
Frequently Asked Questions
What are foreclosures and mortgagee-in-possessions?
When a home buyer takes out a mortgage with a lender, the property at the centre of the agreement is regarded as collateral. If the buyer fails to make the agreed loan payments over time, the lender can sell the property to recoup the money it provided as a loan. A ‘foreclosure sale’ is when a lender (such as a bank) transfers the title of the property to itself before selling. A ‘mortgagee-in-possession sale’ is when the title remains in the original buyer’s name during the sale. Either way, such ‘distressed sales’ represent a golden opportunity for those seeking affordable property.
How do you find pre-foreclosures in your area?
If you’re interested in buying pre-foreclosure or mortgagee in possession properties, there are a number of options for tracking them down. You might first look at popular property websites, such as rpdatacom.au, and scan the listings for properties that have been on the market for extended periods eg 365 days. You can also develop a network of professionals, such as real estate agents, who can give valuable insight into these kinds of properties. Finally, you can keep an eye on publicly available court lists. Sometimes individuals who are on these lists are faced with financial difficulties and as such, can be more inclined to sell their properties due to their distressed circumstances. These court listings include mortgagee, divorce, sheriff sales (located in government gazettes) and liquidations.
How to buy a house that’s in pre-foreclosure/ mortgagee-in-possession?
This can be done in one of three ways:
- Going to a public auction for the property
- Going directly to the distressed homeowner and negotiating a deal for a WIN-WIN outcome for all parties involved
- Taking over of the property with the intention to on-sell it
Option one cannot be advertised as a pre-foreclosure/ mortgagee-in-possession property as consumer law forbids this practice in Australia. However, if prior knowledge is gained by identifying the property being auctioned through the court lists, by way of matching names with the property being sold, then this can offer the astute buyer a considerable advantage. The second process offers the buyer a more direct route and cuts out the competition. The same sourcing process as in option one takes place, however, this time negotiation can be carried out directly with the distressed homeowner. As with any deal, both parties need to agree to the terms of sale for there to be a successful outcome. Should the property be under water ie the owner owes more than the property is worth, this includes any arrears, then the bank must also agree to the terms of sale. Finally, the third option is to take over the property, payout the arrears to the bank and continue making mortgage payments until such time that the property is ready for sale. Again, the same sourcing process as in options one and two takes place. As in any deal, both parties need to agree to the terms of sale for there to be a successful outcome. The third option is a great strategy to use especially when the person taking over the property can add value through a renovation. This option does not require the title to change hands. The DG Institute can provide further information around courses which cover securing distressed properties for a WIN-WIN outcome for all parties involved.
Where to find mortgagee listings?
When a bank attempts to sell a property it has repossessed due to non-payment of a loan, it can’t simply take the first offer that comes along. Consumer law in Australia requires the lender to make a reasonable effort to get a fair price for the property with the intention of both recouping the money owed to it and delivering any equity that might have been built up to the defaulting owner. For this reason, repossessed property sales must be given every opportunity to get a fair market price and to do this, the bank must advertise the property through a real estate agent before going to auction. If your goal is finding such properties before they go to auction, the DG Institute supplies graduates with a list of prospects, while court lists and specialist websites may also offer leads.
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