One of the most common questions asked of real estate professionals these days is some variation of the following: "Is now a good time to buy a foreclosure?"

I get this question routinely, too, and my short answer is simply to "check with your local real estate agent." I say that because the most accurate answer to the question is based on local market conditions and the individual financial status of the prospective buyers — two pieces of information best determined by a good local real estate agent.

By JAMES J. SACCACIO

One of the most common questions asked of real estate professionals these days is some variation of the following: "Is now a good time to buy a foreclosure?"

I get this question routinely, too, and my short answer is simply to "check with your local real estate agent." I say that because the most accurate answer to the question is based on local market conditions and the individual financial status of the prospective buyers — two pieces of information best determined by a good local real estate agent.

Unfortunately, some agents are still steering their clients away from foreclosures simply because those agents don’t understand how foreclosures work.

The free-market metronome tends to swing to extremes before settling back into a reasonable rhythm. What we saw over the past few years in many parts of the country was a real estate market ratcheted up to an unsustainable rate.

Homes were far overvalued and overpriced. Builders scrambled to meet future supply based on demand artificially inflated by speculative buyers who relied on risky loans. Lenders’ risk analyses were in some cases clouded by seemingly insatiable demand from investors in the secondary mortgage market.

Now, the market has moved back to the other end of the spectrum and everything is slowing to a snail’s pace: Home prices in many areas are plummeting, builders are inactive, and many prospective buyers and investors are sitting on the sidelines and waiting as the inventory of homes for sale balloons.

That makes the market all the more attractive to fiscally sound buyers and investors.

What is the future of the foreclosure market? Engage in the Inman News Roadmap to Recovery project to share your views.

Foreclosures typically represent the most motivated sellers, which can be a good thing for buyers … but buying a foreclosure can be one of the most complicated real estate transactions a buyer can make. Unlike a traditional real estate deal, buying a property in default or directly from the bank is not an endeavor for the faint of heart. There can be pitfalls, and some foreclosure buyers choose to work with experienced agents.

In some markets, banks and owners in default are more willing than ever to negotiate on the sale of foreclosure properties.

Here are some tips to navigating the turbulent foreclosure waters:

Avoid outstanding liens. How do you know a good foreclosure from a bad one? Certainly bargains exist, and buyers can get great deals, fix the house up, live in it or sell for a profit. But making money can be tricky in a real estate market cascading downward, with the bottom nowhere in sight.

First, there’s the complex business of unpaid liens, including mortgage debt, taxes, construction loans, home equity lines of credit, and possibly a second or third mortgage. Any or all of these financial obligations could become your clients’ responsibility when they purchase a foreclosure property. Unless the property goes through a foreclosure auction and becomes a bank-owned property (REO), the outstanding foreclosure liens and fees could simply be transferred to the new owner. Don’t let your clients fall into the same financial trap as the previous owner.

Understand home value. In a depreciating market, it’s hard to know when you’ve reached the bottom of the market. It’s hard to predict where home values will be five or 10 years from now, but one thing is certain this year — home prices are falling in most U.S. cities and buyers are nervous. No one knows when the housing crisis will stabilize. So encourage your clients to factor in falling prices into any offer they submit on a foreclosed property.

Be prepared for surprises. This is a great opportunity to buy for those who have the cash. If your clients are planning on renting out the property long term or even reselling it for a quick profit, make sure they consider the carrying costs — including sales commissions, marketing costs, vacancies, taxes, insurance and maintenance costs. Once you’ve calculated all those expenses, add an additional 10 percent to 15 percent on top of the carrying costs for unknown expenses and hidden costs. If they don’t build in a "surprise fund," your clients might be the next foreclosure statistic. In short, buyers and investors must have a substantial amount of cash in order to turn a profit in this dicey foreclosure market.

Beat the bank. Lenders are drowning in defaults. Banks — particularly in hard-hit real estate markets such as Arizona, California, Florida, Michigan, Ohio and Nevada — are slashing prices to lure buyers back into the market. So now is the time to make deals with the banks. Lenders are motivated to cut a deal, especially in areas where they have large inventories of unsold properties. If your clients have a good credit score and are buying a bank-owned home, many banks will offer them below-market-rate loans. Unlike paying down with points, this doesn’t cost anything in fees, and it gives them the ability to spend more for a home: Since present dollars are more valuable than future dollars, the real value of the loan, over its life, will be less.

Watch for foreclosure spikes. In this battered foreclosure market, choosing the right neighborhood is more important than ever. Your clients should avoid neighborhoods overrun with foreclosures, particularly newer subdivisions in exurban areas where developers overbuilt. Neighborhoods with a high concentration of foreclosures will offer investors good prices, but those neighborhoods are the most likely to suffer further depreciation. Investors will be tempted to buy foreclosures in these areas, because they offer the steepest discounts — but they also carry the most risk. Look for foreclosures in well-established neighborhoods with good schools and easy access to transportation.

Foreclosure financing. Require your clients to be pre-approved for a loan before you help them shop for a foreclosure. Financing on an investment or second home has always been more difficult — and more expensive — than financing a primary residence. Lenders typically charge higher interest rates and require a larger down payment for investment or second homes.

Plan an exit strategy. Finances aren’t the only reason your clients might need to divest their foreclosure investment. Job transfers, illness, death and divorce are just a few unexpected circumstances that can force them to sell. Whether they decide to rent or sell their foreclosure for a profit, some forward-thinking on your part can help them transition through the hard times.

Despite the myriad obstacles, investors and homebuyers can locate great foreclosure deals if their timing is right. This is the time of opportunity — and you can help them seize it. The foreclosure bargains will not last forever.

James J. Saccacio is CEO for RealtyTrac, a real estate foreclosure research and data company.

***

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