This Old House

Tired of renting and eager to take advantage of falling property prices, 28-year-old Leonard Poteat started working with a real estate agent last October in hopes of becoming a first-time home buyer. After a few false starts, Poteat found what he was looking for in a Hyattsville, Maryland, property that was listed for $239,000.

On the market for more than 12 months, Poteat’s home of choice was a “short sale,” meaning that the owners were on the edge of foreclosure and working with their bank to negotiate a payoff that would be lower than the amount they owed. The house’s list price was $100,000 below its estimated market value of $336,000. But roadblocks went up as soon as Poteat, a graphic arts and photography consultant, made an offer. It was September, and many of the government’s early first-time home buyer programs were about to expire. An anxious Poteat stood by as the typical 60-day closing period ended, leaving him responsible for a 5% down payment and 3.5% in closing costs. Holding up the deal was a second mortgage that the seller hadn’t disclosed. The original lender had outsourced or sold off the loan to an out-of-state bank, further complicating things. On top of that, there were a slew of unexpected charges (imposed by the seller’s outsourced lender) resulting from damages sustained during a prolonged vacancy.

“Three contracts had already fallen through on this property because of those issues with the lender,” recalls Poteat, “but I really liked the house and didn’t want to walk away.” That determination found the eager buyer waiting more than 30 days to hear back from the out-of-state lender, who seemed in no hurry to close the deal. Many buyers complain that banks are overwhelmed with the sheer volume of foreclosures and are moving too slowly to sell them off.

Poteat also spent time negotiating with the homeowner to come up with a way to pay off the $4,000 second mortgage with a promissory note.

“While everything was being worked out, the first-time home buyers programs’ went away and I had to bring $16,000 to the table,” says Poteat, referring to the Bush administration’s tax credit. Poteat finally closed in February, five months after making his offer. On the bright side, the delay meant he qualified for the Obama administration’s $8,000 housing tax credit enacted this year for first-time home buyers.

“That tax credit was a godsend,” says Poteat, who had little trouble obtaining a loan for his first home. “I have good credit, so that wasn’t the issue. The hard part was working through all the loopholes associated with the distressed sale.”

It’s news to no one that national foreclosure filings–including default notices, auction sale notices, and bank repossessions–are on the

rise. Such activity jumped 9% during the first six months of 2009, compared with the previous six months, according to RealtyTrac. One in every 84 U.S. housing units received a foreclosure filing during the first six months of 2009. Those statistics, though harrowing for struggling homeowners, spell opportunity for prospective buyers. During much of last summer, nearly a third of homes sold in the U.S. were “distressed” properties. “Because so few homes are selling right now, in some cases, property can be picked up for less than 30 cents on the dollar [compared with the previous sales price],” says Michelle Francis, an agent with Tim Francis Realty in Atlanta.

Compelling as they may sound, foreclosures and short sales can present unique challenges. Francis recommends steering clear of geographic areas fraught with foreclosures. “If you look down the street and half of the homes are in foreclosure, it’s probably not a good place to buy,” she cautions. In Atlanta, for example, Francis says investors should stay away from the condo and townhome market, both of which were overbuilt during the housing boom. “It will be a long time before those markets recover,” she says, noting that a buy-and-rent strategy (for someone looking to generate income from a rental property) may not always work in such cases. “Many times, in these developments, rentals are only allowed for 25% of the total units. You could end up on a multiple-year waiting list before you can rent out your property.”

Certified distressed property expert George Durkin, a broker-manager with Las Vegas-based Realty Executives, says real estate investors who do their homework–and don’t try to time the market by looking for the perfect moment to buy–will have the best chance at success.

Rule No. 1 when buying a distressed property, Durkin says, is to ask the sellers for a due diligence period of seven days or more after making an offer. “Hire a professional home inspector, plus specialized inspectors to handle the roof, mold, pests, and other inspections to make sure the property doesn’t need any major repairs.” Why? Because you can’t be sure of the circumstances behind the former resident’s exodus. Also, foreclosures and short sales are typically sold as is and without warranties.

Figuring out exactly what you’ll pay in one of these nontraditional real estate deals is another challenge. Durkin advises buyers to work with their real estate agents to fully understand any counteroffers provided by the lenders, particularly in the case of a repo sale. “Many of these contracts are worded in ways that have the buyer paying for costs (such as property transfer taxes and other fees that the seller normally covers). That may not seem obvious at first glance,” Durkin warns. “Careful attention should be paid to what closing costs are going to be paid and timelines associated with the transaction closing.”

As with any type of investment, it’s best to speak with a financial planner, accountant, or other professionals before jumping into the distressed real estate market, especially if this is your first time. Go into the market with a long-term view. Flipping properties for a quick profit is a thing of the past. Poteat, who has been living in his new home since February, advises anyone looking to purchase a distressed property to line up a good real estate agent and reputable mortgage lender. “With short sales and foreclosures you’re going to deal with more headaches than you would with a traditional deal,” he explains. “You want people on your side that will go to bat for you and help you win.”

The Do’s and Don’ts of Buying Distressed Properties
DO work with a real estate agent who has experience with distressed property sales.

DON’T buy property in a neighborhood that has foreclosure signs in almost every yard.

DO look for homes that have already been vacated.

DON’T be drawn in by super-low prices; the cheapest properties may present the greatest challenges.

DO — immediately after you make an offer — hire multiple inspectors to thoroughly assess the home.

This article originally appeared in the October 2009 issue of Black Enteprise magazine.