If you are a real estate investor looking for distressed properties, one of the logical places to start is a foreclosure auction. Gone are the days when buying at foreclosure meant freezing your butt at the courthouses’ footsteps. Now you can shop for foreclosed properties from outlets such as Auction.home and Hubzu.com wearing nothing but PJ’s. However, many new rehabbers are apprehensive about buying at an auction and for good reason. If you are planning to buy an investment property at a foreclosure auction, you need to understand how this process is different from shopping on the regular market. Not knowing these differences may throw your entire real estate investment strategy out of the window.
Ready to buy an investment property at a foreclosure auction? Here four things to keep in mind.
1. Most online auction sites charge the buyer’s premium.
The buyer’s premium is a percentage additional charge on the winning bid that is paid by the winning bidder. It is charged by the auctioneer to cover administrative expenses and goes directly to the auction house and not to the seller. In real estate, the buyer’s premium may vary from almost zero to as high as 10%. The buyer’s premium raises the overall costs of your purchase. For example, if you bought a property at an auction for $150,000 and the buyer’s premium is 6%, for all practical purposes your purchase price should be adjusted to $159,000 ($150,000 purchase price and $9,000 buyers’ premium). Many auction buyers forget about the buyers’ premium and, as a result, significantly miscalculate their potential profit. Always remember to factor it in and also mention the buyer’s premium to the private lender you are working with.
2. You might have to commit buying a property without getting inside first.
The process of buying at an auction is less transparent than the process of buying in the open market. When your property is listed on the market, you typically have ample time to visit it and poke around. In many cases, you can even bring In your contractor before making an offer. This is not the case when you are buying a home at an auction. The chances are you will have to make a leap of faith and make that offer without ever stepping a foot in the property.
There are several ways to mitigate the risk you’re taking. First, be conservative with your renovation budget and, until you actually get inside, use the worst-case scenario to calculate your renovation budget. Second, do some detective work prior to making a bid. Visit the property in person and see if you can peek inside through the windows to determine its condition.
3. Knock and hope no one’s home.
If you are ready to buy an investment property at a foreclosure auction, you must have a clear understanding of whether it’s vacant or not. Having an occupant might greatly complicate things – especially for real estate rehabbers who must move fast to sustain their profit margins. An occupant might be reluctant to let you (or anybody else) access the property even after you put it under contract. In addition, if a real estate appraiser is not able to get into the property, it will jeopardize your financing. Ask the auction house whether you will be able to access the property after you won the bid. If not, communicate the situation to your private lender. Few private lenders are willing to close on properties that are either occupied or inaccessible. However, some might be willing to make exceptions if you give them time to restructure the deal and if you have a plan on how to deal with the current occupant. For more information on this topic, read our previous blog on how to deal with a foreclosure that is still occupied.
4. Caution: Undisclosed Liens
Title issues are often far from real estate investors’ minds. After all, if sellers cannot deliver a clean title, buyers can walk away without jeopardizing their earnest money deposit. However, if you are planning to buy a property at a foreclosure auction, it’s not always the case. Many online auction sites offer properties auctioned by third-parties and cannot verify their information. You need to be aware that, in many cases, the burden of discovering whether there are additional liens rests with the buyer. If such liens do exist (and they almost always will be discovered by a title company later in the process), you, as a buyer, might be responsible for them. Sounds unfair? It probably is, but, as a private lender, we’ve worked with several borrowers that got burned by undisclosed liens. To learn more, read our blogs about potential title issues after foreclosure and how to research those liens before buying at a foreclosure auction.
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