Making Money Buying Foreclosures

As with most investments, real estate investing can be risky. For everyone who has been hugely successful in the buying and selling of real estate, there probably has been one who has crashed and burnt. Investing in foreclosures is one of the more speculative areas of investing in real estate -- one that can be quite lucrative. With the current conditions in the housing market, finding foreclosure properties is easy. Making a huge profit from each investment, however, is not. Given the depressed (and depressing) resale values for houses, the profit margin on a foreclosure -- even the ones being sold at "fire sale" prices -- is relatively small.

Foreclosure rates had been increasing even before the current subprime lending fiasco. Naive people had gotten into the idea of buying and flipping without knowing the ins and outs of renovation, design, and marketing. Many would-be flippers found themselves overextended financially, with more money invested in their investment properties than they could possibly get in a quick sale. When their dream-flip houses couldn't sell for what they needed to break even, many found themselves forced into foreclosure. Even before the subprime meltdown, the number of foreclosures had gone up by 40% in the 12 months between 2005 and 2006.

More recently, the number of foreclosures has been increasing for a number of reasons. Rates of interest on adjustable rate mortgages has gone up, forcing many bad-credit or overextended homeowners into default. This influx of foreclosed properties, coupled with an oversupply of newly-built houses, has depressed prices, making it even more difficult to sell your house before falling into default. This softness in housing demand has been made worse by the continuing decline in the economy and the decrease in monetary liquidity.

That's not to say that it's impossible to make a profit in foreclosures. There are bargains out there to be had. Back in March 2007, the three states with the highest number of foreclosures were Nevada, Georgia and Colorado. More recently, again due to economic recession and oversupply, the biggest foreclosure states are now California, Florida and Michigan.

There's often an unjustified stigma attached to foreclosure properties. Many people seem to think that foreclosures only happen in less-desirable areas. But with the current market conditions, many luxurious and attractive homes have gone into foreclosure. Luxury high-rise condominiums in Miami, for example, that had been selling at over $2 million each before the real estate crash are now going begging at $800,000 or less.

There are a number of different methods to find foreclosure and pre-foreclosure properties -- the Internet has certainly made the process a lot easier. There are a number of web sites that list court records and other documentation that indicate mortgage arrears and foreclosures. There's usually a month fee -- between $15 and $50 per month -- to access these sites. Be aware though, that some of the listings are probably out of date or are duplicates.

There are 3 types of foreclosure investment opportunities -- pre-foreclosure (where the homeowner has just defaulted), auction, and the Real Estate Owned (REO) opportunity. Each of these three opportunities present risk for the potential investor. However, buying at auction provides the greatest profit potential of the three.

Pre-foreclosure, as you might guess, means dealing with and negotiating directly with the homeowner. The idea is to purchase the property from them before it has actually gone into foreclosure. After purchasing the house, you then flip it quickly for whatever profit you can get. Being in default, with foreclosure looming, makes the homeowners very motivated to sell, at whatever price they can get. Given the right situation (and an absence of foreclosures nearby), an investor can hope to make between 25 and 35% of profit on the investment.

The disadvantage to trying to invest in pre-foreclosures is that you may find yourself competing with a number of other would-be investors. Competing for a house in default will certainly drive the price up and squeeze your profit margin. Another disadvantage to investing in pre-foreclosures and the desperate homeowners is that they may be going through a really difficult time, whether it be divorce, or unemployment or bereavement. It's hard to drive a hard bargain with someone who is obviously hurting badly. Lastly, you may have to deal with liens on the property. If the homeowner is in financial difficulty (and most in pre-foreclosure will be), they may be in default on other loans, some of which may have liens on the house. Investor beware!

Buying at auction can be profitable, but it can also be risky. At an auction, you may have the opportunity to do a little research prior to the auction itself, but you rarely are able to inspect the property in advance. Payment for a property bought at auction normally entails a certified check for 10% of the selling price, with the remainder to paid soon after. You'll need to have your financing already in place, if you want to buy at auction.

Another drawback to buying at auction is that you have no title report or title insurance, and you don't have the expertise of a real estate agent to help you. Purchase terms for the property are usually "as is" and it may still be occupied. Once you buy the house, all the problems, including what to do with the unwanted residents, are yours and yours alone.

Until the recent glut of properties in foreclosure, there was usually significant competition for houses sold at auction. Before the current mess, auctions could expect to attract dozens of potential investors for each property. Many of these investors are still in the game, meaning they have more expertise and knowledge than newbie investors do. However, in those areas where the foreclosure rate is unusually high, competition for auction properties may be much less. Perhaps non- existant.

The foreclosure opportunity that has the least risk is the REO method. REO foreclosures are when the lender has been forced to take possession of the property. Because the lender needs to recoup whatever money he can from the failed loan, he will try and sell the property as soon as is possible. Therefore, an investor can buy the property from the lender at just the right time, at a purchase price well below the market value. Buying investment properties this way has advantages. The lender has probably already paid the property taxes, the homeowners' fees and has the property title. An investor in this situation will also have the opportunity to inspect the property, and haggle with the lender whose main goal is to sell ASAP.

While REO purchases are the least risky, they also tend to have the lowest profit potential. You may also find yourself competing with a number of other would-be investors for the same property.

There is no sure way to make short-term profits in real estate. As with any type of investing, the best advice is to make sure that you are as well-prepared and well-informed as you can be, in order to minimize your exposure to risk. Make sure to learn all that you can on bankruptcy, title insurance and bidding at auctions. Also, know the real estate market for the area in which you intend to invest. A good scheme in one neighborhood may be a guaranteed failure in another.

Laws on foreclosures vary from state to state. Make sure you've studied the laws pertaining to foreclosure and get as much professional advice as you can.

Wisdom, knowledge and professional assistance, along with the right situation and the right location, can go a long way towards making your investments in foreclosed properties a profitable success.

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