Do you want to save some money? Need a property and don’t mind doing some repairs to get you started? Would you like to invest in real estate? Well, look no further – distressed real estate might be just what you need.
What is a distressed property?
To understand this better, let’s examine how a property gets into foreclosure state.
A person wants to buy a home and so turns to mortgage or financial institutions for a loan. After the loan is approved, it is the responsibility of the person to ensure that they are following the regular payment arrangement they have made with the mortgagee.
However, if the homeowner fails to honor the agreement, the mortgagee or lender wants to get back the money they provided to the homeowner. We call this process foreclosure or repossession. This could be for many reasons, such as divorce or bankruptcy.
There are also cases where homes have been in distress due to the condition of the property – that is, old homes in need of repair or buildings that are under construction and shut down because the owners ran out of money and not in were able to complete the construction.
REOs are bank-owned properties that have already been foreclosed and are withdrawing money from the banks that own them. The owners of these properties are very motivated to sell because they want it to stop costing you.
Short sales are properties whose owners are often in financial distress, cannot afford the mortgage payments, do not have the assets to pay off the loan, and are willing to sell the property at a discount – less than a mortgage amount due. This can be a great way to flip a house and sell or rent it for a profit.
And that is exactly what distressed properties are. These are homes that are not being sold because the owner wants to sell, but because of upfront, foreclosure, repossession, real estate owned by a lender (REO), or for personal financial reasons. These houses are usually offered through an auction where the highest bidder receives the property.
These houses are usually offered well below market value. In principle, all parties try to limit their losses.
When you factor in the real cost of trying to sell something for a good price, lenders want to make sure they don’t have to invest a ridiculous amount of money or time to get that extra dollar. That means low prices. They just want part of their money back.
It also means that there is usually work to be done for these properties. Most likely, the previous owner couldn’t maintain the property because he didn’t have the money. Unfortunately, some houses really look pretty awful and take a lot of work.
More on distressed real estate from BiggerPockets
Risks when buying a distressed property
Buying a distressed property can be a great real estate investment that can help you make a big profit on a property that is listed below market value. But while there are many benefits associated with it, there are also risks.
The biggest one is buying the property as it is. Distressed properties tend to be in disrepair and are being sold as they are without proper inspection. Also, you can’t often negotiate things like repairs or additions because the seller doesn’t have a lot of leeway in their budget. You have to take care of this maintenance yourself.
They can also be outbid at auction for the property, a likely scenario for a distressed property. These properties often have good value, which can lead to more competition from other buyers.
Delays in purchases can also be a problem. The buying process takes a relatively long time, as selling it to a seller who is over-indebted with his mortgage is a little less straightforward. It can take you months to complete and you may have to jump through the hoops on your way to support the sale.
Why invest in distressed real estate?
Consider the drawbacks associated with building a new property, such as time, permits, construction loans, and legal implications.
When buying a distressed property, your main focus is on getting a good bargain and maximizing your investment return.
Here are three reasons to invest in distressed real estate.
1. Lower prices
Due to the nature of distressed properties, it is easy to get a property below market value. You can buy low-performing properties across the Midwest for 10 to 20 cents a dollar, which is one-third the cost of building a new property. Note, however, that you may have to find these properties yourself.
Because homeowners are usually in a position to really want to sell – and quickly. That puts you in a better position to get a bargain. If you combine your position with negotiating skills, you are guaranteed to save a lot of money in the future. If you’re looking to build a portfolio, you’ve come to the right place.
2. Financial gain
Distressed properties create opportunities for property investors to generate profits. With prices below market value, your margins on distressed properties are simply much better.
It also means that you are taking far less risk. If you can buy two properties for the price of one, not selling one of them might not be a big problem. You’ll just hold on to it longer. Less financial pressure brings more freedom.
The Home Ownership Act states that as the value of your property increases, so does your equity. With the purchase of distressed real estate, you are in an immediate position to make a large financial gain by purchasing a home for less than market value. Hopefully your net worth will increase dramatically after you renovate the property.
3. Less delays in approvals
When building new real estate, you are exposed to external influences that lead to delays and usually lower your margins. Some good examples include when the approval of your building plans is not in your favor, when your builder was responsible for obtaining the approval but didn’t do so in a timely manner, or when your builder made a mistake that resulted in poor construction of the property . Such situations make a bad situation worse. And worst of all, they can all appear with the same quality. Sometimes this will force you to make decisions that will seriously affect your bottom line.
This is not the case when you are buying a home in need. The previous owners have likely already gone through this process so you don’t have to worry about getting government approvals and avoiding setbacks.
Best of all, you don’t have to worry about lag after lag. Sure, you will have someone renovate the property. But the complexity of building an entire house is much greater than doing some renovations. This has a huge impact on the schedules you work with so you can make more money on distressed homes, faster.
How do I find a distressed property?
Searching for distressed real estate is best started with the bank or other financial institution. Usually they don’t have the time to advertise and seek out real estate agents or companies to market their properties.
You can also look at locked properties from government agencies like the Federal Housing Administration (FHA), the US Department of Veterans Affairs, or the Internal Revenue Services Department (IRS), to name a few. Usually these institutions advertise their properties in the newspapers.
Another way to find distressed properties is to do a simple Google search for properties in your area that are up for auction or about to be foreclosed. You can search online at the District Court for public records that record and store real estate transactions for properties in that district. Check Craigslist daily and try to send some yellow letters.
Finally, it is always best to turn to an experienced real estate investor who specializes in this area to guide and advise you on your purchase. In addition to having access to all kinds of lists, successful real estate investors can take advantage of their networks and connections with banks, mortgage lenders, and real estate agencies.
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Can you finance a distressed property?
Financing an investment property can be difficult. Distressed real estate is even more difficult to finance, but it is doable.
One option is a conventional mortgage if the house is in a habitable state. To get one, you need to show the bank that you are trustworthy, which means you have excellent credit, low debt, and a solid income. You also need to be able to pay a large deposit.
Non-traditional lenders are more likely to finance distressed properties. You can reach out to friends and family who may lend you money, or you can reach out to private groups and clubs interested in real estate and / or investing.
If you have a good track record as a real estate investor, you may be able to obtain a short-term hard cash loan, sometimes called a “fix-and-flip” loan. You don’t need such a high credit rating or down payment for this option, but the interest rates are higher than traditional loans.
If none of these options work for you, you can try using the equity of your primary residence as collateral for an offer and then buying a distressed property. You can do this through a refinance that allows you to borrow more than you owe on your property and use the excess money to invest in a distressed property.
Now that you know all the facts, you are in a better position to own your first distressed home in the future. The difference between a successful real estate mogul and a failure is often not in having better skills or ideas, but in the courage to rely on ideas, take a calculated risk and act.
Most of all, it will depend on your ability to sniff out the perfect opportunity. This means the highest chances of being awarded contracts, the right location and manageable renovations. All of these things play a role in what matters or not.
Remember, you are looking for an undervalued property – not just a cheap one. You can buy $ 60,000 worth of property for $ 10,000 and still suffer a loss. Some offers just don’t make sense, and if you understand that, you’ll love what distressed real estate has to offer.