BUYING BANK REPOSSESSED HOUSES FOR BIG PROFITS

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2 BUYING BANK REPOSSESSED HOUSES FOR BIG PROFITS by Lance Young Published by Gateway Investment Properties, Inc.

3 BUYING BANK REPOSSESSED HOUSES FOR BIG PROFITS Published by Gateway Investment Properties, Inc. Copyright 2010 Gateway Investment Properties, Inc. All rights reserved No part of this course may be reproduced or transmitted in any form or by any means, electronic or mechanical, including photocopying, recording, or by any information storage and retrieval system, without permission in writing from the publisher. The information in this course is meant to enhance your interest in real estate. All examples used are for illustrative purposes only. This course is sold with understanding that the publisher is not engaged in rendering legal, accounting, or other professional advice. The publisher is neither an attorney nor an accountant. If legal advice or other expert professional assistance is required, the services of a competent professional should be sought. Lance Young, individually or corporately, does not accept any responsibility for any liabilities resulting from the actions of any parties involved. i

4 INTRODUCTION WHAT YOU CAN EXPECT FROM THIS BOOK This book takes you through the entire process of making money with REO (bank repossessed) houses. Making money with REOs is very profitable. You can make as much money with an REO as you can with a property you buy at a foreclosure auction. When you have finished reading this book, you will know more about buying REOs than nine out of ten investors. This will give you a tremendous advantage over less informed investors and enable you to get the best deals. Let s get started! i

5 BUYING BANK REPOSSESSED HOUSES FOR BIG PROFITS Table of Contents INTRODUCTION...i Chapter WHAT IS AN REO?... 1 THE ADVANTAGES OF BUYING REOS VS. PREFORECLOSURES AND AUCTION... 1 PROPERTIES... 1 THE BEST TYPE OF REO TO PURSUE... 1 WHY BANKS GET STUCK WITH REOS... 2 WHY BANKS WANT TO GET RID OF REOS AS QUICKLY AS POSSIBLE... 3 Chapter WHAT KINDS OF PROPERTIES SHOULD I BUY?... 4 Chapter HOW DO I FIND THE FAIR MARKET VALUE OF A PROPERTY?... 8 GOING ONLINE FOR YOUR FORECLOSURE INFORMATION... 8 FINDING THE FAIR MARKET VALUE THE OLD FASHIONED WAY... 8 Chapter THREE METHODS FOR FINDING REOS REOS YOU SHOULD NOT WASTE TIME ON REOS YOU SHOULD NOT BUY WHAT TO DO AFTER YOU HAVE FOUND AN REO Chapter NEGOTIATING WITH BANKS FIVE FACTORS THAT DETERMINE THE BANK'S WILLINGNESS TO SELL THREE IMPORTANT NEGOTIATING TIPS Chapter A WORD ABOUT CONTRACTS FIVE VALUABLE CLAUSES RATIFICATION Chapter FLIPPING REOS Chapter WHY YOU MUST KNOW ABOUT SHORT SALES WHAT IS A SHORT SALE? HOW DOES THE SHORT SALE PROCESS WORK? WHAT ARE SOME QUESTIONS THE HOMEOWNER MIGHT ASK ABOUT A SHORT SALE? Chapter SETTING GOALS CONCLUSION...24 ii

6 Chapter 1 What is an REO? The advantages of buying REOs vs. pre-foreclosures and auction properties The best type of REO to pursue Why banks get stuck with REOs Why banks want to get rid of REOs as quickly as possible WHAT IS AN REO? When a homeowner borrows money to purchase a property, he must pledge the property as collateral on the loan. If he falls behind on the payments, the bank has the right to sell his property at a public foreclosure auction to pay off the loan. Foreclosure is a legal action that the lender takes to force the homeowner to pay the missed payments, or lose the house at a public foreclosure auction. An attorney, hired by the bank, is in charge of the foreclosure proceedings and auction. If there are no bidders at the foreclosure auction, the bank that is foreclosing ends up owning the property. The property then becomes known as an REO. R.E.O. is an acronym. It stands for Real Estate Owned by the bank. Banks do not want REOs. They often sell their REOs to investors at very low prices. Some banks will take losses just to get rid of them. This course will show you how to buy REOs at rock bottom prices and how to make great money with them. THE ADVANTAGES OF BUYING REOS VS. PREFORECLOSURES AND AUCTION PROPERTIES With REOs, you have two big advantages over preforeclosures and properties purchased at auctions: You do not have an auction date to work against like you do with preforeclosures. You are able to thoroughly inspect the property. You cannot do this with the majority of properties that you bid on at foreclosure auctions. THE BEST TYPE OF REO TO PURSUE Once a property has been foreclosed upon, its ownership is transferred to the lender. The property then becomes known as an REO and the lender will try to get rid of it as quickly as possible. If the property that was foreclosed upon had a government backed loan such as a VA or an FHA loan, the bank would be able to give it back to the government. HUD (Department of Housing and Urban Development) is the government agency that ends up with all FHA and VA foreclosures. This book deals with REOs that resulted from the foreclosure of a conventional loan; it does not deal with HUD properties. I have found that you can get better deals with non-hud properties. 1

7 Let's look at VA, FHA and Conventional loans: Veterans Administration loans are also known as VA loans. Veterans of the armed forces are given these loans by the government. They are easy to qualify for and are loans that require no down payment. Since VA loans are nothing down loans, this means that the veteran starts out with no equity. Many VA properties that are foreclosed upon have very little equity and no potential profit margin. Federal Housing Administration loans are also known as FHA loans. The government started these loans as an affordable way for homeowners to get their first home. FHA loans can be had for a down payment of less than five percent which makes it much easier for homebuyers to purchase a home. The government insures the lender against any loss that may be incurred if an FHA loan is foreclosed upon. As with VA loans, it is very difficult to get good deals with FHA loans and I do not recommend that you pursue them. Conventional loans are not backed by the government. Consequently, when lenders make a conventional loan, they require that the homebuyer make a larger down payment. If the down payment is less than twenty percent of the purchase price, a conventional lender will require the homebuyer to purchase Private Mortgage Insurance. Private Mortgage Insurance covers a lender if it ever faces a loss as a result of a foreclosure. Once a homeowner has accumulated twenty percent equity, Private Mortgage Insurance would no longer be required. WHY BANKS GET STUCK WITH REOS Banks often get stuck with properties that they have foreclosed upon. There are several reasons why this happens: The property had little, or no, equity. When there is little equity in a property, bidders will not attend the foreclosure auction. For example, if a property has less than 20% equity, there is a good chance that the bank will end up with it. The property was in poor condition and no one would take the risk of buying it at the auction. These types of properties can be gold mines because you can get the bank to allow you to thoroughly inspect the property before making your offer. There is an IRS lien attached to the property. Most bidders will not take the risk of buying a property that has an IRS lien attached to it. They do not want to wait 120 days only to find out that the IRS has decided to take the property and refund their money. These properties can be great deals for you because you can get the bank to accept a low offer while it waits for the IRS right of redemption period to end. In the meantime, you can flip the property to another investor. 2

8 WHY BANKS WANT TO GET RID OF REOS AS QUICKLY AS POSSIBLE Banks do not want REOs. These properties are the result of bad loans that the bank has made. They are a liability rather than an asset. Every month that the property sits vacant, the bank loses money. Here are seven reasons that a bank would sell an REO to you at a deep discount: 1. The bank has received a large cash settlement from their Private Mortgage Insurance company, also known as PMI. PMI is insurance that covers the bank for its losses when it must foreclose upon a homeowner. Depending upon what is bid at the auction, PMI will make the bank a full or partial settlement. This settlement helps offset any loss of money the bank may have when it sells the REO at a discount. 2. Banks are regulated by the Federal government. They are penalized for having too many REOs. A bank with a lot of REOs may not be able to borrow money from the Federal Reserve. Banks need to borrow money from the Federal Reserve in order to stay in business. The government does this because REOs are a sign that the bank has been making bad loans. If a bank makes enough bad loans, it will go under. Since the government insures these banks through the FDIC, it has a sharp interest in making sure this does not happen. 3. Banks are not set up to deal with REOs. Not all banks have the luxury or the need for an REO department. When a bank gets an REO, it assigns the task of disposing of the property to a high ranking manager, such as a department manager or a regional manager. This unfortunate person has been given this unwelcome task in addition to his normal duties. He does not get paid more money to deal with REOs. The REO will be a pain in the neck for him until he finds a way to dispose of it. 4. Banks frequently own mortgages to properties located in different states. Some of these out-of-state properties end up going to foreclosure and become REOs. When a property is foreclosed upon and a bank ends up with an REO that is located in another state, it makes it difficult for the bank to make decisions about the sale of the property. 5. The bank will have carrying costs associated with the property. These include property taxes, water and sewer bills, insurance bills and electricity bills. If the property is a condominium, there will be condominium fees. If it is a townhouse, there will be homeowner s association fees. 6. The REO must be put into marketable condition. Banks are not set up to deal with the renovation of a property. They are in the banking business and do not have trustworthy contractors that they deal with on a regular basis. 7. A real estate agent must be hired to market the property. This will cost the bank at least six percent of the total sales price. Use these reasons to your advantage. Remember, you will make the most money on properties that need a lot of repairs. These properties can be purchased for a fraction of their value. 3

9 Chapter 2 What kinds of properties should I buy? How important is location? WHAT KINDS OF PROPERTIES SHOULD I BUY? There are three different kinds of properties you will run across. They are listed below in the order of desirability. 1. Single family home: This is a basic detached house. Single family homes are the best properties to get. 2. Townhouse: These are also known as row houses. They are the second best properties you can get. 3. Condominium: Condominiums are at the bottom of the list of desirable properties. Let s take a closer look at each of the three types of properties. SINGLE FAMILY HOMES Single family homes are by far the best properties to make money with. Here are a few reasons why: They appreciate in value faster than townhouses or condominiums. Most homebuyers want a single family home and put them at the top of their list. Homebuyers want the privacy of having a yard around their home, a place where their children can play and the parents can keep an eye on them. They don't want to hear their neighbors the way you can with townhouses or condominiums. Homebuyers want the large amount of living space a house offers. Single family homes are the best and usually the fastest sellers of the three types of properties. This is very important for you to understand because once you have a property you have bought at a deep discount, you must then sell it quickly so that you can make your profit. Since single family homes are the most desirable of the three properties, you should make sure that anytime you have a chance to get one, it gets high priority attention. A very important point to keep in mind when looking at single family homes is to buy only affordable homes in stable neighborhoods. Buy a house that is located in a neighborhood where working class families live; where people take pride in owning a home. These are what I call "bread and butter" houses. Bread and butter houses have three to four bedrooms and one to three bathrooms. They aren't fancy, but they are houses that most families can afford. 4

10 Do not buy expensive single family homes in wealthy neighborhoods. Sure, you can make very large profits on them, but what if they don't sell right away? Then you get stuck with property you can't sell and you still have to come up with a high monthly payment. There are not nearly as many buyers for expensive homes as there are for more modestly priced homes. Expensive houses are hard to rent. The people who can afford high rents for expensive houses will usually use their money to buy an affordable home rather than rent a bigger, expensive home. Since you are just getting started, you want to make sure that any property you purchase will sell quickly. Very rarely will you get a bread and butter house that you can't sell right away if you follow the rules of good investing. The basic rule of good investing is to buy affordable houses at a deep discount, then sell them below what other people are selling similar houses for in that neighborhood. After all, you have bought the property so cheaply that you can afford to take almost any decent offer that comes along and still come out with a good profit. So stick with bread and butter houses; that is where I have made the most money and where you will too. Never buy properties in poor, depressed areas of town no matter how good the deal seems. If you buy in a rundown area, you may get stuck with a house you can't sell and you will have nothing but a headache on your hands. Don t take the risk of putting money into a property that may sit on the market for years not when there are so many good deals to be had instead. Always keep in mind that you must be able to sell your properties quickly in order to make a big, fast profit. Don't let greed get in your way. If you think you have a deal that seems great, but the neighborhood is questionable, pass on it. There will be plenty of safer deals to come your way, believe me. You want to be very cautious on your first few deals. Once you have bought a few houses, you'll see that it pays to be patient and wait for the really great deals that will come along. You only need a handful of deals every year to make tens of thousands of dollars in profit. As a real estate investor, you must be concerned with how quickly you can sell your properties and go on to the next deal. So keep things simple, stick with bread and butter houses in decent, affordable neighborhoods. TOWNHOUSES The second best type of property to buy is a townhouse. Townhouses generally appreciate in value more slowly than single family homes, but much better than condominiums. The same rule applies here as with single family homes. Buy only in clean, stable townhouse neighborhoods where there is obvious pride of ownership. Always keep in mind that the property you're trying to buy should be one you would live in if you were interested in buying a home in the neighborhood. The number of buyers looking for townhouses is not as great as it is for affordable single family homes. Townhouses have the second highest number of buyers. Keep this in mind when looking at townhouses that are in foreclosure. Remember, you only want properties that will sell quickly so you can get on to the next profitable deal! One last thing on townhouses: Most townhouse subdivisions have what is called a Homeowner's Association Fee. These fees range from several hundred dollars per year on up, depending on how luxurious the townhouse development is. 5

11 The Homeowner's Association Fee covers maintenance of the common areas within the subdivision like entrance signs, small parks, playgrounds, walking trails, etc. Trash service is usually included, along with snow removal. When looking at townhouses you will need to know how much the annual fee is, and what services you get for it. It's important to know this because the people who buy from you will want to know, and the homeowner's fee could affect their decision to buy your property. I recommend that you buy townhouses whenever you can get them at deep discounts. I've made some very nice profits on them through the years, and if you follow the simple rules outlined in this course, you will, too. CONDOMINIUMS Condominiums are the third and last type of property you can buy. They generally appreciate in value slowly and can take longer to sell than single family homes or townhouses. That doesn't mean that you can't find some good opportunities with condominiums, though. I once made $20,850 on a condominium in McLean, Virginia. The main reason I was able to make a good profit was because I bought it very cheaply and was able to sell it quickly. It sold quickly because it was in an excellent location. I tell you this because I want you to know that condominiums can be profitable. I also want you to know that overall, they are the least desirable type of property you can buy. Quite a few investors do not buy condos at all. The reasons are many. Let s take a look at them. Condominium Fees The first and biggest reason condominiums are the least desirable type of property are the condominium fees. Condo fees can range from several hundred dollars a month to over a thousand dollars per month. Every owner of a condo I have ever talked to has told me that they thought their condo fee was too high. Your buyers will have to pay a condo fee, and will be very aware of this. This can make it harder to sell the property. You want to sell your properties quickly, so keep in mind that condos can take longer to sell than townhouses and single family homes. Condominium Associations Condominiums are managed by a condominium association, and many times they are managed poorly. When a condo association is run poorly, condo fees are higher than they should be. This doesn't mean that all condo associations are run poorly, it just means that you should be aware that it can happen. It's important for you to know this before you buy a condo because a poorly run complex often has many units for sale in it. If there are more units for sale in a condominium complex than normal, it will be hard to sell a unit unless you are selling very cheaply. Special Assessments It is very important to be aware of special assessments. Let's say you have bought a condo and the condo association finds out that there is a problem with the foundation of the building. It will cost $300,000 to repair the problem. If the association has not saved enough money from the condo fees for emergencies, and does not have adequate insurance to cover the problem, who will pay the repair bill? You guessed it. All of the owners of the condominium complex will have to come up with their share of that $300,000 bill. One easy way to check and see if there are any Special Assessments pending is to request a copy of the Condominium Documents. By law, a buyer of a condominium must be furnished with these documents prior to the purchase of the condo. 6

12 Space Another reason condos are last on the list of properties is that they just don't have as much space as other kinds of properties. Many buyers of condos can't afford a townhouse or single family home and don't have much choice other than to buy a condominium. On the other hand, there are some buyers that just do not want the upkeep of a house and want the worry-free living that a condominium offers. If you decide to go after condominiums, keep in mind that the ones with the most value are well run, and have a strong condominium association. The best condominiums to invest in are ones with an exceptionally good location. These condominiums tend to be luxury, high-rise type buildings. They offer many amenities such as a pool, tennis courts, 24 hour security guards, covered parking spaces, etc. These types of condominium complexes always have a larger pool of buyers than complexes that have a poor location and few amenities. Keep this in mind when looking at condominiums. 7

13 Chapter 3 How do I find the fair market value of a property? Going online for your foreclosure information Finding the fair market value the old fashioned way HOW DO I FIND THE FAIR MARKET VALUE OF A PROPERTY? In chapter three you learned that you need two things to determine the amount of equity in a property. These two things are the fair market value and the amount of debt on the property. Let's go over how you will find the fair market value of a property. There are two ways to find the fair market value of a property: 1. You can go online and subscribe to a foreclosure listing service. 2. You can do it the old fashioned way and phone a real estate agent. GOING ONLINE FOR YOUR FORECLOSURE INFORMATION There are several online services that provide listings of properties that are in foreclosure. These services also offer a valuable feature that will enable you to find the fair market value of the properties that are listed. This is the quickest, easiest way to find the value of a property. These foreclosure listing services can be found by going to a search engine and entering the search term, Foreclosure Listings. FINDING THE FAIR MARKET VALUE THE OLD FASHIONED WAY If you are not able to subscribe to an online foreclosure listing service then you can phone a local real estate agent to find the fair market value of a property. A word of caution here: Many real estate agents estimate the fair market value of a property on the high side. They do this because when they are dealing with homeowners, most homeowners think their home is worth top dollar even if the home is not in top condition. The homeowners expect the real estate agent to tell them that their property is worth more than it is, or they won't hire the agent. Sad but true in many cases. COMPARABLES The fair market value of a property is found by looking at comparable properties, and what they have sold for recently. Comparable properties are known as comparables or comps. The property you need to find the fair market value of is called the subject property. By looking at comparables, you get a feel for what similar houses in the neighborhood are selling for. The subject property will have a fair market value that is close to that of the comparables that have sold recently in the same neighborhood. Using comparables is the best way to pinpoint a property's fair market value. 8

14 FINDING THE FAIR MARKET VALUE FOR TOWNHOUSES Finding the fair market value for townhouses is very easy compared to single family homes. Here is why: Most townhouse subdivisions do not allow homeowners to build additions onto their property, so the properties do not change. There are a limited number of different models in townhouse neighborhoods. In most cases, the only things a townhouse owner can do to increase the value of his property are: finish the basement add an extra bedroom in the basement add an extra bathroom When looking at comparables with townhouses, your agent will look for many of the same things as she would with a single family home, such as the number of bedrooms and bathrooms the subject property has, what type of model it is, and any other features the subject property has that could increase its value. Townhouses don't change much through the years and their fair market values are easy to figure out because there are so many comparables to look at. FINDING THE FAIR MARKET VALUE FOR CONDOMINIUMS Finding the fair market value of condominiums is very easy. There will only be a handful of different models in the complex. There isn t much that an owner can do to increase the value of a condominium. You may run across a condominium with extras such as expensive cherry wood kitchen cabinets or hardwood floors. These extras may affect the property s fair market value a little, but not much. The good thing about extras is that they will make the property sell faster. All you have to do is have your agent pull up comparables that have sold in the past six months that have the same number of bedrooms, bathrooms, and square footage. You will find that the fair market value is easy to pinpoint. PRACTICE! If you have no experience in real estate, it s a good idea to practice finding the fair market value of a few properties. Look up a few properties. Get the comparables from your agent and go over them together. Drive out to the neighborhood and look at each of the comparables. Check each comparable, and see for yourself whether it is similar to the subject property. 9

15 Chapter 4 Three methods for finding REOs REOs you should not waste time on REOs you should not buy What to do after you have found an REO THREE METHODS FOR FINDING REOS Here is a brief description of the three methods for finding REOs: 1. Subscribe to an online foreclosure listing service. Without question, joining an online foreclosure listing service is the fastest and easiest way to find REOs. These listing services specialize in finding REOs all across the U.S. Their databases hold literally thousands of REOs. They group the REOs by city, state and zip code so you can search for them at the click of the mouse. 2. Call the foreclosing attorney right after the auction and see if the property was taken back by the bank. It is not necessary to attend the foreclosure auction to use this method. All you must do is call the attorney s office on the day of the auction and see if the property was taken back by the bank. If the bank took it back, it has now become an REO. 3. Have your real estate agent find REOs on the MLS. Once your real estate agent knows what to look for, you can have her find REOs and you can pick and choose the ones that have the most potential. It will not take your agent much time to find REOs if she knows what to look for. REOS YOU SHOULD NOT WASTE TIME ON Many REOs are listed for sale at prices close to their value. Do not let the asking price fool you into thinking that the bank will not take a low offer. You cannot tell when a bank will accept a low offer. Each bank works differently. It can sometimes be hard to tell when they will accept a low offer. However, here are some examples that will save you time when looking for bargain REO properties. Do not waste your valuable time on an REO when you find the following: The bank has recently rejected offers that were higher than you are willing to pay. The bank has already had the property fixed up. If the bank has invested a lot of money into getting the property into marketable condition, it will not be willing to sell it at a deep discount. Use these two reasons to your advantage. You will find many REOs if you use the simple methods that are outlined in this course. You only have so many hours in the day 10

16 and you must work smart, not hard. Do not waste your precious time on REOs that do not appear to have potential. REOS YOU SHOULD NOT BUY Here are some reasons not to purchase an REO. Keep them in mind because they will save you a lot of trouble. Refer to these reasons any time you are in doubt about an REO. Do not purchase REOs that are in poor locations. A poor location makes it hard to sell any type of real estate. REOs in run down sections of town where there is obviously no pride of ownership are nearly impossible to sell at any price. This holds true for properties that are located in rural areas. There are very few buyers who want to live an hour from a gas station or grocery store. Be very careful if an REO is in exceptionally poor condition. If the property is so badly in need of repairs that it is better off being bulldozed than fixed up, do not try to make the deal work. Do not buy REOs in very expensive neighborhoods. There are very few buyers for $1,000,000 houses, but there are thousands of buyers for $200,000 houses. Buy REOs in stable subdivisions where properties are selling quickly. Stick with affordable bread and butter houses. With REOs, always make sure you are buying an affordable property that is in a good location, and always be very cautious with properties that need a lot of repairs. WHAT TO DO AFTER YOU HAVE FOUND AN REO Once you find an REO that has potential, you are ready to make an offer on it. Once again, your REO should be in a good location and in relatively good condition. If the property needs extensive cosmetic work and updating, make sure that you take this into consideration when making your offer. Here are three steps that you must take before making your offer: 1. Have your agent find the fair market value of the property. Remember to be conservative in your estimates of the fair market value. 2. Go to the property and inspect it. Carefully make a list of all the needed repairs. This list will come in handy when making your offer to the bank. 3. Calculate the amount of money you want to make on the property and make your offer based on this amount. I recommend that you pay no more than sixty-five percent of fair market value for REOs. When calculating your potential profit, keep in mind these five costs: Purchase price - the total amount of money you are paying for the property. Purchaser's settlement cost - all costs associated with the buying and selling of a property. 11

17 Fixup cost - all costs associated with getting the property into top marketing condition so it will sell quickly. Carrying cost - The monthly loan payments and taxes. They will be about one percent of the amount you are borrowing. Additionally, utilities and insurance will be at least several hundred dollars more per month. Marketing your property and going to settlement on it once your agent finds a buyer. Use ten percent as a general estimate. This includes six percent for your real estate agent's commission and two percent for the seller's settlement fees. It also includes a two percent margin for paying part of the purchaser s settlement fees. It is common in a real estate transaction that the seller pay part of a buyer s settlement fees. After you have completed the three steps above, you are ready to make your offer to the bank. 12

18 Chapter 5 Negotiating with banks Factors that determine the bank's willingness to sell Three important negotiating tips NEGOTIATING WITH BANKS It is important that you understand how to deal with a bank when you make your offer. Remember, you are doing the bank a favor by taking a fixer-upper REO off its hands. Use this to your advantage. You are dealing from a position of strength. There is a good chance that you are the only person who has shown any interest in the REO. This means that the bank will have a sharp interest in selling to you. FIVE FACTORS THAT DETERMINE THE BANK'S WILLINGNESS TO SELL There are many factors that a bank will consider when deciding to sell an REO at a deep discount. Here are the main factors that will be considered: The type of property that the REO is. Some properties are harder to sell than others. For example, a condominium is usually harder to sell than a single family home. A four unit apartment building may be harder to sell than a well located townhouse. This can be a key factor when you are negotiating with the bank. How many REOs the bank has in its inventory. Obviously, a bank with five REOs is more motivated to sell properties at a discount than a bank that has only one REO. Make sure that you ask the bank s real estate agent how many REOs he has. If he has more than one, try to get a package deal on them. The agent will know that you expect a big discount if you buy more than one property. How long the bank has had the REO. If the bank s real estate agent has had no luck getting rid of an REO, he will be much more motivated to sell at a deep discount. Some REOs have been on the market for months. You never know when a bank will grow tired of having to deal with the REO and will take a loss just to get rid of it. How close it is getting to the end of the bank's fiscal year. Banks operate on a fiscal year. For example, a bank's fiscal year may start in March and end the next February. Banks like to dispose of non-performing assets before the start of the next fiscal year. View this as a sort of "housecleaning" for the bank. You will not know when the bank's fiscal year is coming to an end, but you should be aware that this can be a major factor. The property's condition. If an REO is poor condition, the bank will be much more willing to sell it at a deep discount. 13

19 THREE IMPORTANT NEGOTIATING TIPS Here are three important tips to use when negotiating: Always have the attitude that you can go on to the next deal if you cannot get a great deal on an REO. This does not mean that you should try to bully the bank. This will do you no good and will likely get the bank s real estate agent to hang up on you. Approach the bank with a firm but businesslike attitude when negotiating. Let the bank s agent know that you are an investor who wants a profit on the deal. In return, you will take a pain-in-the-neck property off his hands. Always ask the bank s real estate agent for more than you are willing to settle for. This way, the agent can say no to some of your requests and feel like he has done a good job negotiating for the bank. This is a very effective way to negotiate, especially since you are dealing from a stronger position. Remember, the bank wants to get rid of the REO! The bank s real estate agent knows that you can go on to another deal at any time and he will still be stuck with the REO. Always get the bank s agent to mention his asking price first. If you are contacting a bank right after the foreclosure auction, they will not have a set asking price yet. This is important. Do not make the bank an offer until you hear what they are asking for the REO. For all you know, they want less for the REO than you are going to offer! 14

20 Chapter 6 A word about contracts Five valuable clauses Ratification A WORD ABOUT CONTRACTS When you are ready to make an offer on an REO, you must put it in writing. This is done by filling out the real estate sales contracts that are used in your state. Real estate contracts are written for the benefit of real estate agents and their clients. They are not written for the benefit of the purchaser. Since you are the purchaser, you must know how to make minor adjustments to contracts so they are more advantageous to you. FIVE VALUABLE CLAUSES Here are five clauses that you can use when writing a contract with a bank. Use them as needed and remember to always use weasel clause number one. 1. WEASEL CLAUSE. This clause allows you to change your mind. "This contract is subject to the approval of my partner/attorney/accountant/spouse within five business days of ratification of this contract. Choose the appropriate person or persons when using this clause. 2. POSSESSION BEFORE SETTLEMENT. "At time of ratification, buyer is to receive keys to property and the right to enter for purposes of showing the property to prospective occupants." This clause is important because you want to be able to show the property to investors. 3. POINTS FOR NEW LOAN. "Seller to pay loan origination fees and points for buyer's new loan." If you are getting financing from another lender and must pay points, get the bank that is selling you the REO to pay them. 4. SETTLEMENT COSTS. "The seller shall pay all costs associated with the settlement of this property including, but not limited to: transfer, recording, and documentary taxes, stamps, and costs; title search, survey, and title insurance; attorney's costs; document preparation charges; termite inspection charges; and all other costs." Get the bank to pay as many of the closing costs as possible. 5. DEFERRAL OF INTEREST. "No interest shall accrue on this note until and first payment under the terms of this note shall be due and payable on." This is a good clause to use when asking the bank to finance you. For example, you can write that interest and payments will not start for three months or even six months after you purchase the property. As you can see, you can ask the bank for just about anything that you want. Even if the bank says no to some of your requests, you may end up with a great price and some of 15

21 the terms that you have asked for. Remember, ask for more than you are willing to settle for. You never know what the bank will do for you! RATIFICATION Negotiating an REO deal with a bank can often take a long time. Some deals will take weeks and even months to negotiate. Usually, the better the deal, the longer it takes to negotiate. This is part of the negotiating process and you must be patient. This is why you must know what ratification of a contract means. Simply put, ratification of a contract occurs when both you and the bank s real estate agent in charge of selling the REO have signed a contract. This is especially important to know when filling in blank number thirty in the contract above. Remember that ratification occurs only when both the buyer and seller have signed the contract. 16

22 Chapter 7 Flipping REOs FLIPPING REOS Flipping REO properties is easy to do. You get a REO under contract with the bank and find an investor who will buy your contract at a higher price. It is no more complicated than it sounds. Flipping REOs is similar to flipping properties before the auction. The difference between the two is that when flipping an REO, you are not under the time pressure of an impending foreclosure auction like you are with a preforeclosure property. This gives you more time to get the highest possible price for your contract. You must be more careful how you write a real estate contract when dealing with a bank. A bank will want more than a $10 contract deposit on a contract. One hundred dollars will usually be sufficient. Some banks may want a larger deposit. If the deal is good enough, you may need a larger deposit. I do not recommend that you ever put up more than five hundred dollars on any real estate contract because you may lose your deposit if you fail to live up to the terms of the contract. It is important to protect yourself when flipping contracts. Make sure you get your investor to give the settlement company a deposit equal to, or higher, than the deposit you have agreed to in the contract. Draw up an agreement with the investor that states he will forfeit his deposit if he does not settle on the property in accordance with the contract. Make sure the settlement company understands that you are to receive the investor s deposit if the property is not settled on in time. Doing this will take all of the risk out of the deal. The investor should not have a problem with paying a deposit because you are not asking him to give the deposit to you. You are asking him to give the deposit to a reputable settlement company that fully understands what both of you are doing. Always put this in writing. If you have an investor who will not put down a deposit, then you should find another investor. There are plenty of investors who are looking for a great real estate deal and would be willing to put up a deposit with a reputable settlement company. Finally, make sure you have a backup plan that will allow you to settle on the property if the investor fails to do so. This way, you can implement your backup plan and keep the investor s deposit if he fails to settle on time. 17

23 Chapter 8 Why you must know about short sales What is a short sale? How does the short sale process work? What are some questions the homeowner might ask? WHY YOU MUST KNOW ABOUT SHORT SALES As a bargain hunter, you need to purchase properties at big discounts to ensure that you make a profit. But what happens when you find a where there is no equity in the house? Is your deal dead? Is there another way for you to accomplish the deal? The answer is yes. You can orchestrate what is known as a short sale. In simple terms, a short sale involves getting a lender to accept less than what is owed so that you can get the house at a big enough discount to make a profit. Before you read the rest of this chapter, I want to warn you that in many areas of the country you will not be able to get a big enough discount from a lender to make a short sale worth your time. Why? Because lenders are savvy about real estate markets and will not give you a 35% discount on a property when they can get more for it as an REO. This holds true the majority of the time; however, there are two cases where you can get the lender to accept a huge loss. Let s go over each case so you will have a clear understanding of when you should use a short sale to profit on a property. Case #1: The property is in poor condition If you find a foreclosure property in rough shape, it is a good candidate for a short sale because the lender will not want to risk ending up with a house that needs substantial repairs. Lenders are not in the home renovation business and will avoid run down properties if possible. This means a tremendous opportunity for the investor who knows how to accomplish a short sale. Case #2: There is a large second trust on the property When you locate a property that has a large second trust there is a good chance you can get the lender to accept a short sale. This is because second trusts are in a precarious position whenever there is a foreclosure. Remember in chapter 5 where you learned that each trust is paid off in order? For example, if a homeowner has a first trust and a second trust, and goes into foreclosure, the first trust gets paid first, and the second trust gets paid second from the money that comes from the foreclosure. What if the bidding at the foreclosure auction does not go high enough to cover the money owed to the second trustholder? You guessed it. The second trustholder is out of luck and takes a big loss unless he wants to bid at the auction to cover all the money owed to the first trustholder and is willing to end up owning the property. For many second trustholders, this is completely unacceptable and they will often take what they can get even if it means that 18

24 they end up with ten cents on the dollar! Are you beginning to see the tremendous opportunity of a short sale? Second trustholders will be willing to accept a short sale because they do not want to end up with a property at a foreclosure auction. Remember that lenders are not in the business of owning houses. To make matters worse, the second trustholder must pay off the complete balance owed on the first trust if they end up with the house at the foreclosure auction. Not all second trustholders are large lenders who can afford to do this. In fact, if the second trustholder is an individual rather than a large lender, chances are that he or she will not have the money to pay off a first trust and will need to accept a short sale or risk getting all of their second trust wiped out at the foreclosure auction. Whenever you locate a foreclosure property that is in poor condition and/or has a second trust, it is a ripe candidate for a short sale. WHAT IS A SHORT SALE? A short sale occurs when a property is sold and the lender agrees to accept less than what is owed as payment in full. For example, if the homeowner owes $100,000 on his mortgage, but the bank agrees to take $90,000 as the payoff amount, this is a short sale. The difference between what the homeowner owes and what the bank accepts for payoff is called the short fall balance. Both the homeowner and the bank will often agree to a short sale to prevent foreclosure proceedings. In many foreclosure situations, the homeowner still owes what the property is worth. A short sale allows you the opportunity to get a property at a discount even when the owner has little or no equity in it. There are two ways to profit from short sales: You can line up a buyer in advance and sell the property to them after the short sale is completed, or you can buy the property, make necessary repairs, and sell it at fair market value on the open market. HOW DOES THE SHORT SALE PROCESS WORK? First, ask the homeowner to sign a Disclosure Authorization or Authorization to Release. This allows you to speak with the lender on behalf of the homeowner. NOTE: If the house is in preforeclosure, DO NOT try to work with the foreclosure attorney. Deal directly with the lender s loss mitigation department. After you have gotten the homeowner s signed permission to talk to the bank, here s what happens: You call the lender s Loss Mitigation Department. This is the department that handles foreclosures. Try to speak with someone as far up the ladder as possible customer service representatives often have limited knowledge of short sales, and their sole objective is to collect a debt. Your goal is to request a short sale packet, which provides you with the forms, information and instructions for completing a short sale. Tell the representative who is handling the homeowner s account that you represent the homeowner. The representative will ask you for some basic 19

25 information about the property and the proposed deal. He will also need to know the value of the property and the financial situation of the homeowner. The bank orders a BPO (broker s price opinion) from a local real estate agent. The BPO gives the lender an idea of what the property is worth on the market. Since the BPO is what influences the entire deal (and whether or not there is a deal), it s important to influence the BPO as much as possible. Be truthful, but make note of all defects and problems with the property, no matter how small. You immediately send the realtor doing the BPO as much information as you can on the scope of work that needs to be done on the property, so that she can present the bank with an accurate BPO and make them aware of all defects. The more work a property needs, the less it is worth, and the more difficult it will be to sell on the open market and the more willing the bank will be to agree to a short sale. You submit the short sale package to the lender. This is the package of forms and information that the lender sent you after your initial conversation. It includes the offer letter, information about the seller s financial situation, your contract with the seller, and other information which we ll cover later in this chapter. NOTE: After you ve sent the package back to the lender, be sure to call the lender to verify that they have received your packet, and that they have all of the information they need to make a decision. You receive an answer from the lender. Once you have submitted all necessary materials, it usually takes four to six weeks (and often longer) to receive an answer from the lender. NOTE: if the property s foreclosure auction date is approaching, request that the lender extend the date until they have considered your offer. Lenders will usually grant an extension if the offer is legitimate. You make a counter offer to the lender, if appropriate. If the lender answers with a yes to your short sale proposal, they may still ask for more than you re willing to pay. You can make a counter offer, which they can then counter again, or accept. You sell the property at market value. You can either sell the property to a third party buyer you ve already lined up, or you can repair it and sell it on the open market. It s important to get the property into good condition as quickly as possible so that you can put it back on the market and avoid months of mortgage payments on the property. WHAT ARE SOME QUESTIONS THE HOMEOWNER MIGHT ASK ABOUT A SHORT SALE? When you re working to negotiate a short sale, the homeowner is sure to have some questions regarding the property he s about to let go. Here are some common questions and their answers: 20

26 WHY SHOULDN T I JUST LET THEM FORECLOSE ON MY PROPERTY? If all the seller can see is that he is losing his house, a short sale and a foreclosure may seem all the same to him. But the seller s credit will suffer significantly less damage from a short sale than from a foreclosure. A foreclosure greatly harms a credit rating for years to come. Though a short sale does put a mark on a credit score, it shows up as a settled debt, indicating that the seller took responsibility for the debt. Its effects on the seller s credit rating will not be nearly as adverse as would a foreclosure. In addition to wreaking havoc on a credit score, a foreclosure could place a homeowner at greater financial liability than would a short sale. If the homeowner allows the bank to go through with foreclosure proceedings, he may be liable for any shortfall balance as well as for holding costs, foreclosure attorney costs, auction costs, and even taxes. WILL I HAVE ANY TAX LIABILITY WITH A SHORT SALE? The short answer is no. Since the shortfall amount is actually forgiven debt, and since forgiven debt is considered income by the IRS, the seller would normally be liable for taxes on that amount, as if he had earned it. Recently, new tax laws were passed that forgive the taxes owed on a shortfall amount. A homeowner who sells a home in a short sale is not liable for taxes on the shortfall amount. WILL I HAVE ANY OTHER LIABILITY TO THE BANK WITH A SHORT SALE? The lender could seek a liability judgment against the seller, suing the seller for the deficiency amount. Although some banks use this threat quite often, in reality, they only follow through about five percent of the time. In conclusion, short sales can make you a lot of money; however, you should only use this strategy when appropriate. Properties that need lots of repairs and properties that have second trusts on them are the best candidates. Don t waste your precious times on properties that do not meet these conditions. 21