Foreclosure Overview
What is Foreclosure?
Foreclosure is a process that allows a lender to recover the amount owed on a defaulted loan by selling or taking ownership (repossession) of the property securing the loan. The foreclosure process begins when a borrower/owner defaults on loan payments (usually mortgage payments) and the lender files a public default notice, called a Notice of Default or Lis Pendens. The foreclosure process can end one of four ways:
1. The borrower/owner reinstates the loan by paying off the default amount to during a grace period determined by state law. This grace period is also known as pre-foreclosure.
2. The borrower/owner sells the property to a third party during the pre-foreclosure period. The sale allows the borrower/owner to pay off the loan and avoid having a foreclosure on his or her credit history.
3. A third party buys the property at a public auction at the end of the pre-foreclosure period.
4. The lender takes ownership of the property, usually with the intent to re-sell it on the open market. The lender can take ownership either through an agreement with the borrower/owner during pre-foreclosure or by buying back the property at the public auction. These are also known as bank-owned or REO properties (Real Estate Owned by the lender).
This process allows for three opportunities for finding bargains on foreclosure homes.
Pre-Foreclosure (NOD, LIS):
Buying a property in pre-foreclosure involves approaching the borrower/owner and offering to buy the property outright. The borrower/owner can walk away with something to show for any equity in the property and avoid a bad mark on his or her credit history. The buyer has time to research the title and condition of the property and can realize discounts of 20-40 percent below market value.
Auction (NTS, NFS):
If the loan is not reinstated by the end of the pre-foreclosure period, potential buyers can bid on the property at a public auction. Buyers often are required to pay in cash at the auction and may not have much time to research the title and condition of the property beforehand; however, a public auction often offers some of the best bargains and avoids the unpredictability of dealing directly with the borrower/owner.
Bank-owned (REO):
If the lender takes ownership of the property, either through an agreement with the owner during pre-foreclosure or at the public auction, the lender will usually want to re-sell the property to recover the unpaid loan amount. The lender will then typically clear the title and perform needed maintenance and repair; however, the potential bargain for these REO homes is typically less than a pre-foreclosure or auction property. Bank foreclosures can become government foreclosures if the loan is backed by a government agency such as the Department of Housing and Urban Development (HUD) or the Department of Veterans Affairs (VA). In that case the government agency would be responsible for selling the property.
Foreclosure Terminology
Definitions
Notice of Default (NOD): The initial document (non-judicial) filed by a trustee that starts the foreclosure process, usually after the occurrence of a default under the deed of trust, or mortgage. Both LIS and NOD are part of the PRE-foreclosure process.
Lis Penden (LIS): Notification of pending lawsuit. The initial document (judicial) filed by an attorney or trustee that starts the foreclosure process after the occurrence of default under the deed of trust or mortgage. Both LIS and NOD are part of the PRE-foreclosure process.
Notice of Trustee's Sale (NTS): A filing by notice announcing a public auction.
Notice (Judgment) of Foreclosure Sale (NFS): An order signed by a judge, directing a “ Notice of Sale” be published and that a referee (trustee) sell the property at public auction.
Real Estate Owned (REO): “Real Estate Owned” by the lender; the final step in foreclosure process. This document conveys property ownership back to lender.
Government-Owned (GOV): A foreclosed property offered for sale by the government. When a property purchased with a federally insured mortgage (i.e., FHA, VA) is foreclosed by the lender, the federal government pays the lender what is owed, takes possession of the property, and offers the property for sale.
Glossary of Terms
Foreclosure: A legal procedure by which mortgaged property is sold, upon default, in order to satisfy a debt. Foreclosures generally are governed by state law, and rules may vary between States.
For more details, visit our Foreclosure Overview of the foreclosure process, including links to relevant State Law.
Deed of Trust: A type of security instrument where the borrower conveys the property’s title to a third party (trustee) to be held “in trust” as security for the note.
Mortgage: A conveyance of an interest in real property, given as security for the payment of a debt. An agreement between two parties: borrower and lender.
Assignment of Deed of Trust or Mortgage: Assumption by a purchaser of liability for payment of an existing mortgage, or deed of trust. May or may not be accompanied by a release of liability of the original borrower.
Novation: The substitution of a new contract between the same, or different parties; a substitution, by mutual agreement, of one debtor for another, or one creditor for another. The result is that the old contract is extinguished, and a new contract is created, usually with the same content, but with at least one different party.
Declaration of Default: a document instructing the trustee (usually appointed by a bank) to prepare and record a Notice of Default (NOD), and if necessary, to sell the property at auction in order to satisfy the unpaid obligation or lien.
Full Reconveyance: a document prepared by a trustee, when an obligation secured by a deed of trust, or mortgage, is paid back in full. Once recorded, this reconveyance eliminates the lien from the property’s title.
Junior Lien: a legal claim upon real property recorded subsequent to (after) another claim or legal obligation (for example, a senior lien would have priority in most cases).
Postponement: a verbal announcement made at the time and location of the scheduled trustee’s sale, resetting the auction for a later date.
Publication Letter: a letter, when signed by the beneficiary (lender), authorizing the trustee to prepare, publish and record the Notice of Trustees Sale (notice of auction).
Publication Period: a period beginning at the expiration of the default period, and ending when the trustee’s sale has been conducted. During the publication period, the Notice of Trustees Sale is published, posted and recorded.
Recession of Notice of Default: After an amount in default has been cured, or paid-back, this document, when signed by the lender and recorded by the trustee, removes the burden of the previously recorded Notice of Default.
Reinstatement Period: The time period beginning when the Notice of Default is recorded, and ending five business days before the trustee’s auction sale. The default may be cured, or paid-back, at any time during this period by paying all delinquent amounts, including the trustee’s fees and costs.
Foreclosure Timeline
Day 1: Notice of Default (NOD) recorded. The defaulting property owner has 3 calendar months to cure, or payback the default amount, either by paying off the lien, or by negotiating a payment plan
Within 10 days: Notice of Default mailed.
Within 1 month: Notice of Default mailed.
3 Months Later: Trustee schedules a Trustee's Sale (auction).
21 days later: On the date of sale, trustee sells the property to the highest bidder. This sale is usually held at the trustee's office, or at the County Courthouse (call trustee for updates on time, date, place).
The information above was gathered from sources deemed reliable and is intended for informational purposes only. Please consult official assessment records. State and county terms and policies may vary so consult your local bylaws.
Advantages of Buying Bank REO Properties
- All liens against the property are removed once it becomes an REO, and taxes are paid.
- Unlike properties at foreclosure auction, REOs can be inspected prior to contract, and are listed with real estate agents.
- While many foreclosures are often in deplorable condition, REOs are typically restored to at least a readily salable condition by the lending bank.
- The bank or lending institution that owns the property will often offer financing with better deals then they would offer on traditional properties.
- The bank or lender that owns the property may often provide an allowance for certain repairs.
- You might save money in your title search if you use the same title company that the lender used during foreclosure. They will often discount the cost!
- REOs will often times include appliances.
- While in hot markets, you may not see a difference in price between an REO and a typical property, during slower markets, you can pick up an REO at discounts to the property’s actual value.
Buying Bank Owned Properties
A common misconception that people outside of the real estate industry make is that a foreclosure and an REO purchase is the same thing. Although they are similar, they are in fact different; more precisely they are corollaries of each other, with an REO being a direct result of a failed foreclosure sale. To understand the difference between the two and how they vary from each other, it is best to define what each is, and their respective merits.
The term Real Estate Owned or REO property is sometimes used ambiguously, but has a specific meaning in the real estate industry; a property that has been fore-closured on by a bank or loan company and has reverted back to the ownership of the lender. So as already explained above an REO is the result of property that has been foreclosed on, and is produced only as a result of a failed foreclosure sale.
Knowing that an REO is the result of a foreclosure leads us to wonder what is foreclosure, what are the benefits of buying a house that has been foreclosed on and what are the reasons why they fail to find a buyer.
Under the terms of foreclosure a bank or loan company reposes the property due to the homeowner's inability to continue with payments on their loan.
Once the foreclosure notice has been issued and foreclosure has started the bank or loan company legally has the right to sell the property; regardless of whether the occupants have already moved out or not.
In order to purchase a property in a foreclosure sale there are a number of items that the bidder needs to successfully complete. First, the buyer has to submit a minimum bid that includes the following:
The loan balance on the property, all accrued interest on the property, attorneys fees, and all costs associated with the foreclosure process.
Regardless of the above, in order to bid at foreclosure the buyer must also have a cashier’s check in hand for the full amount of the bid. If the buyer is successful then they will be offered the house in its ‘as is’ condition; complete with tenants who need evicting and liens secured on the property.
Because of all the difficulties and lack of concrete benefits in buying at foreclosure, most people who want to buy a foreclosed property will go through the REO route.
The REO method of purchase offers much more benefits, incentives and less stress than the foreclosure method.
When a bank or loan company takes back a property they then have the property listed as a sellable asset on their books. The role of the bank is to maximize the wealth of its shareholders. If the foreclosed property can be sold to release cash to invest, then this is the main motive for the bank or loan company; sell the property and invest the cash.
In most situations a bank will be looking for a quick sale, and as such will offer many incentives and benefits to prospective buyers:
Savings of up to 20% off the market value of the property make an REO purchase as the most simple way for first time homebuyers and experienced investors to buy properties. It gives prospective buyers immediate access to the property for home inspections, removes all back taxes and liens, allows for negotiation on rehab costs, interest, closing points, loan amount, etc. It makes the purchase nearly risk-free. Many times the bank or loan company will accept a less than normal down payment.
Although the benefits of an REO seem to outweigh those of a foreclosure purchase you should not take them at just face value; you should always look into exactly what you are getting and what you are liable for, should you choose to purchaser a property.
A bank owned property might look like a good deal on the outside, however, it is necessary that you do your background research on the property before you commit to any contracts. Your first priority should be to find out what the house is worth in today’s current market; having a comparative market analysis carried out will help you with this aspect of the purchase.
The reality that a bank or loan company is trying to sell its REO property does not necessarily mean that they are going to sell the property at a bargain price; such would be going against their role: to maximize shareholder worth.
If after you have had the property checked you still wish to continue with the purchase you will most likely make the bank or loan company an initial offer. Generally the bank’s response will be to counter the offer and ask for a higher price; a standard for the industry.
The emphasis will now be on you to decide on what you want to do. If you decide that the price that the bank or loan company is asking for does not reflect the market value of the property then you can stop and walk away. If you are happy you can counter their offer and submit a new bid.
It is most likely that the bank or loan company will have a whole department, usually called loss mitigation, to handle their REO transaction, and as such it may take a while to get back to you, as around 3 or 4 people may have to review your offer.
If the bank approves your offer, then great for you! If they reject the offer however, you should look at whether you are happy paying more or whether you feel that the price they are asking is either above market value or unacceptable to you.
If you continue with the transaction the bank or loan company will draw up a contract. It is necessary for you to take a good look at the contract and maybe have your attorney go over it with you, as once you sign it you are liable for what it states.
If you have not done so by the time you accept the banks offer you should have the house inspected by a professional. If you are waiting for an inspection, and already have the contract drawn up you should have an inspection contingency written into the agreement, so that you can pull out of any deal if the results of an inspection produce surprises or faults you are not comfortable with. You should always remember that the bank or loan company will always want to sell the property ‘as-is’.
You should, if possible, always consult a realtor or real estate agent before committing to a contract, or before even making your offer to the bank or loan company. If you do have a realtor working for you, you should ask him or her to find out from the listing agent the following details about the property, before you come to you conclusion on the offer you will make:
Are there any inspection reports? What repair work has the bank agreed to? Is there a special "as is" form? How long will it take the bank to accept your offer? How do you, or your agent, deliver the offer?
If you have any questions about the bank owned real estate please feel free to contact me!
|