Image courtesy of Death To The Stock Photo, Death To The Stock Photo
REO means Real Estate Owned, also known as Bank Owned. This occurs when a lender takes full ownership of a property because the previous owner was foreclosed on, and the lender was unsuccessful in auctioning off the property to a new buyer.
For those experienced in real estate transactions, REO's have long signaled the possibility of an excellent bargain when buying a property. If you're a consumer looking for a more affordable home, or an investor intending to buy the property for a return on your investment, it's in your financial interest to get up to speed on REO properties.
In this article you will learn what an REO is, how a property becomes an REO, and why the lenders who own these properties become motivated sellers. We will also discuss the purchasing process involved in buying REO properties and some of the advantages and disadvantages.
An REO or Real Estate Owned property, is a foreclosed property that is repossessed by the lenders. This occurs after an unsuccessful foreclosure auction to which the lender cannot find any buyers.
The lenders become the owners of the property, classified as a REO. These properties are also referred to as Bank Owned. The sellers are the financial institutions which have held the mortgage note on the property.
As owners, the lenders will manage evictions of any existing residents and may do some repairs to bring the property to a condition they feel will make it more attractive to would be buyers. The lender must also pay off any existing liens on the property, including unpaid property and income tax liens. The new buyers will have a clean title.
Generally there are several distinct phases a distressed property will pass through before the lenders take ownership. This process tends to be slow-moving for a few reasons, such as:
Before a lender takes full possession of a property, there are three processes that will take place first:
The current homeowners will attempt to sell the property in the conventional way using a real estate agent. At this point the mortgage amount they owe may be more than the market value of the property, or the owners may be experiencing financial hardship and simply can't afford to maintain the payments for much longer.
The objective is to sell the property for enough money to pay off all existing debts on the home and walk away. If a successful sale does not occur for any reason, then the owners will attempt to sell under a short sale listing.
In a short sale listing, the owners will present the lender a documented account of their financial hardship and the reason why they believe they are a good candidate for a short sale. If approved, the owners will hire a real estate listing agent to list the home. The objective is to to sell the property for as much as possible and have the lender forgive the difference between what the borrowers owes on the existing mortgage, and what the property sells for.
Any lien holders on the property, other than the primary lender, have to approve the selling price. If they don't agree on the selling price then the short sale cannot happen and a new price has to be agreed upon. This is the reason the majority of short sales take so long and ultimately don't close.
After an unsuccessful attempt to sell the property under a short sale listing, the homeowners must choose what to do next. Unfortunately, for many home owners in this position, they are left with little choice but to default on the mortgage agreement. When this occurs, the lender will begin the foreclosure and auction process.
At this point, the lender has complied with local and state laws to foreclose on the property and have the ability to auction the property to a potential buyer. The lender sets a minimum bid to begin the auction. The following are some factors lenders consider when setting a minimum auction price:
Many lenders are not successful in this initial auction because the minimum bid is higher than the market value of the property. Very few buyers are willing to pay above market prices. In addition there may be other liens against the property, which the new owners must repay. The property may still be occupied by the previous residents as well, adding an additional liability to would be buyers.
When this first attempt to auction fails, the lender will set another date and attempt to do another auction to sell the property. After an unsuccessful second auction the property passes into REO status. This can bring distinct advantages for would be buyers, such as:
The lenders want to be freed from the property quickly, while making sure they obtain the highest price. Their objective is to cover as much of the original mortgage liens and the fees associated with the foreclosure as possible. For these reasons, lenders are open to negotiating more favorable terms and conditions for buyers. They are willing to make counter-offers, and they will be receptive if asked to pay some or all closing costs involved in the deal as well.
Several Types of Investors Lenders will Work With:
No Standard Process
Financial institutions have not standardized their approach to REO sales. This means that potential buyers have to monitor several sources of information at the same time. There are several options available for buyers to find REO properties, we will list a few of them we have seen:
Due to the potential for discounts, buyers have to be aware of stiff competition. This will be the case among buyers searching for properties to convert into rental income properties. Therefore, it is no surprise that more investors are doing "buy-and-hold" instead of flipping to sell to another buyer right away.
The process of searching, making offers, and closing on an REO consists of:
REO properties provide investors with below-market prices. This can be especially attractive if you are searching for a property in locations where the average sales price is higher than the REO property listed for sale. In addition, these properties will be free of liens, as opposed to foreclosed properties which still have liens attached to them.
Investors with more experience in REO and more financial resources can end up with the best deals, making it difficult for competitors to get their offers selected. Remember, financial institutions want to unload the inventory and it makes common business sense to favor seasoned buyers with deep pockets.
Another negative is that the property is usually in bad shape. After all, those evicted may have deliberately trashed it in spite. When vacant, theft and vandalism can occur as well. This is why it is important to conduct a thorough inspection of the property with a licensed contractor and home inspector before making your final decision.
The REO process takes place because homeowners have tried a number of possible solutions to get out from under their mortgage and simultaneously reduce the damage to their credit rating through a short sale listing. When this doesn't work, the property moves into foreclosure. Due to the pricing and liens against the property, most foreclosures fail in their first and second attempt resulting in the lender taking ownership of the property. Through REO listings, you gain access to a unique opportunity: Purchasing real estate for below market prices, without liens and, if desired, in bulk.
Buying an REO property has its trade off. There is no primary central system, such as the traditional MLS, in which all that should be available is listed for sale. You are also competing with several other individuals and large investors, which will affect how much you bid and what the counter-offers will look like. In addition, it won't be until the home inspection that you will find out the true condition of the property. The reality of an REO property is that it is a time-consuming process with no guarantee of a closing, but if you're informed and well prepared, you increase your chances substantially.
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