As a property investor, foreclosures can provide you with incredible opportunities to buy and profit from undervalued properties. But what exactly is a foreclosure and how do you invest in one? In this article, I’ll give you an overview of what foreclosure investing is… and why you should be interested – very interested – in getting involved in this hot area of the property market.
Let’s set the scene by explaining a typical home purchase in America today. Let’s say Tom and Sarah want to buy a home. They’ve saved a down payment and found their dream home. Their local bank is willing to lend the rest of the purchase price (let’s say 85%), provided Tom and Sarah repay the loan in monthly payments of principal (the amount they borrowed) and interest (based on the bank’s lending rate) over a certain period of time i.e. 20, 25 or 30 years, now even 40 years.
So Tom and Sarah meet their monthly repayments and eventually own their home outright and all is well…
But what if…
…they can’t meet their repayments?
What if, after having their interest rate kept low for the first year or so, it’s “reset” to a higher rate… that’s just too high?
And what if, based on their financial circumstances, Tom and Sarah can’t afford their monthly repayments?
Well, unless they can establish a less tedious arrangement with the bank… the bank probably isn’t going to be too happy with Tom and Sarah!
And if it’s like many (if not most) banks it’s probably going to start foreclosure proceedings. Basically, these are the legal proceedings whereby a bank can repossess, and then sell, a defaulting mortgagor’s property.
The laws differ from state to state, but there are two ways in which a property is typically sold by way of foreclosure.
The first is where the property is sold under the supervision of a court. The sale proceeds go towards paying the mortgage first, and then to satisfy any other lien holders (i.e. anyone else with certain ownership rights over the property), and finally to the mortgagor(s) (i.e. the people who borrowed the loan – in this case Tom and Sarah).
The second type of foreclosure is a “foreclosure by power of sale.” In this case the mortgagee or mortgage holder (i.e. the lender) sells the property without a court’s supervision. This approach is legal in most U.S. states, and, because it doesn’t require court supervision, is much more expedient. As with a foreclosure under court supervision, the sale proceeds go to the mortgagee first, then any lien holders, and lastly to the mortgagor.
In either case, there is a public auction and the property is sold to the highest bidder.
Now, although Tom and Sarah – as mortgagors – should theoretically get a share of the sale proceeds, it’s not often that mortgagors make much profit from a foreclosure sale! In fact, the whole process is likely to be pretty tough on them. So all this is rather bad news for Tom and Sarah… but let’s just hope they can find a less expensive home where they can afford the repayments.
However, for an astute real estate investor – like YOU – foreclosure sales often present fantastic opportunities to profit! Basically, this is because the properties being foreclosed are typically sold for MUCH less than their market value.
One of the main reasons for this is that banks’ and other lenders’ are chiefly motivated to get rid of these properties, and recover whatever amounts of money they can for them, as soon as possible. They don’t necessarily want, nor do they have the time or know-how, to extract the maximum sales price for a given property.
This is great news for the foreclosure investor. Even better is that, right now, with foreclosure rates higher than they’ve been for many years, there are more and more opportunities for you to make significant profits from foreclosure sales.