The Wall Street Journal-20080212-Beyond Auctions- Ways to Buy Foreclosed Homes

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Beyond Auctions: Ways to Buy Foreclosed Homes

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You might think that it's an especially good time to get a deal on a foreclosed home at an auction.

It isn't. Despite the growing number of foreclosures across the country, there are few bargains to be found at auctions. For one thing, you'll be competing against savvy local investors who know how to gauge a property's real value. What's more, many properties are mortgaged so steeply that banks often ask for bids that are higher than the properties are worth.

There are other ways, though, for a determined buyer to tap into the foreclosure market. One is buying a home in "preforeclosure" directly from the homeowner. Another, more-promising route: buying a home that failed to sell at auction and has been put back on the market by the bank that holds the mortgage.

The number of foreclosed homes is expected to quadruple this year, adding one million properties to the market in 2008 and again in 2009, according to Lehman Brothers.

Foreclosure laws vary from state to state, and sometimes from county to county, so it's important to know how the process works in your area. In New York and several other states, foreclosure proceedings begin when the lender sues the homeowner for not keeping up with the mortgage payments. Such a suit is typically filed in county court after the homeowner misses three consecutive payments.

The foreclosure filings are public documents that provide the names and addresses of property owners in default. Interested buyers can find the filings at the county courthouse and can contact the homeowner with an offer. A variety of Web sites will also provide foreclosure listings for a fee.

A preforeclosure deal offers certain advantages over an auction to both buyer and seller. The seller avoids eviction, and the buyer may be able to negotiate a better deal before the property goes to auction and the bank becomes less flexible. In addition, the buyer, with the seller's permission, can get the house inspected -- a crucial step in obtaining a mortgage. But be forewarned: Some homeowners whose property has been listed as being in preforeclosure may not be pleased to get unsolicited calls from potential buyers.

The length of time it takes for a property to move from preforeclosure status to an auction varies from state to state. In New York and other "judicial" states, it can take months or even a year, because the lender has to sue the homeowner. But in most other states, the lender can begin the foreclosure process without having to sue, and the process is much quicker.

Once the preforeclosure period is over, and homes are slated to go to auction, notices are printed in local newspapers and published on a variety of foreclosure Web sites.

Most people who buy homes at auctions are professional investors who know the market. For amateurs, thorough research is essential, says Jessica Davis, founder of Profiles Publications Inc., a foreclosure- listings service for the New York City area. She says interested buyers should visit the property, even if they can't get inside, to get a good look at the outside and survey the neighborhood. Plus, she says, it's crucial to check for outstanding tax liens or multiple mortgages. "You need to work hard and educate yourself," Ms. Davis says.

At the auction itself, interested buyers should come armed with cash or a cashier's check. Most courts require the winning bidder to pay the down payment, and sometimes the balance, on the spot. (The balance is otherwise usually due within 30 days.) Getting a mortgage is usually out of the question, because defaulting homeowners are unlikely to grant access for an inspection. In addition, buyers must take the property on an "as is" basis, so they may have to spend a lot of money to make it livable.

And don't think you're going to get a good price just because the property has gone to auction. Because of the sharp run-up in housing prices in recent years -- and the increase in huge, and often exotic, mortgages -- many defaulting homeowners have paid off little of their loan principal. Banks, at least so far, have been reluctant to sell the houses for less than the money they're owed, even though houses might be worth less than that because of a softening market.

Some industry professionals say they're surprised more banks aren't lowering prices, and suggest they'll have to do so eventually. "From where I sit, I don't understand it," says Ms. Davis. "The smart thing to do would be to move things along."

Industry experts say first-time buyers are likely to do better with bank-owned properties -- sometimes called "real estate owned" houses, or REOs. These are homes that fail to sell at auctions and are then put on the market by the banks that own them.

In some parts of the country, the prices on such properties remain stubbornly high. But that could change as the inventory of unsold homes grows. In the meantime, buyers assume less risk with REOs since they can inspect them before they buy.

"Different banks work in different ways," says Bruce Lynn, a Realtor in the Dallas-Fort Worth area with Prudential Texas Properties. "Some of the banks will sit [on a property] until they hit their target number -- they may get 20, 30, 40 offers before they're ready to take one."

Potential buyers should work with a real-estate agent who has experience in the process, Mr. Lynn says, and put in a realistic bid. "You can't expect to bid 50% of the asking price and hope to get it," he says.

If no one bids on the foreclosed properties at the auction, the banks then farm them out to real-estate agents to sell on the market. Mr. Lynn says that while the regular homes he sells usually attract two or three bids, foreclosed homes can attract 30 or more offers, all of which he sends to the bank.

For Terry Henson, 47, from Mira Mesa, Calif., a little patience and some extra legwork paid off.

After scouring REO properties for two years, Mr. Henson found a 1,800-square-foot home with three-and-a-half acres of land and a barn in Ramona, Calif. He contacted San Diego REO Specialists, which was representing the bank that held the mortgage. He visited the property and, with a real-estate agent's help, honed an initial offer of $410,000. The bank turned it down.

So he hired a home inspector, who reported that the home needed important updates such as new cabinets, and that the barn would need up to $15,000 in renovations to be brought up to code. Mr. Henson returned to the bank with the same offer, citing its costly structural problems.

The bank finally accepted his offer, even though the outstanding mortgage was about $580,000. "I think they saw...I was showing due diligence," says Mr. Henson.