Your Place in the Distress Property Cycle

CHAPTER 1 Your Place in the Distress Property Cycle Techniques only work when you do. —Carlos Royal Goldmining in Foreclosure Properties deals with homes, condos, and smaller rental units that have fallen into the “distress” category, meaning that the owners are in a hurry to sell. These people may be prompted to sell by personal problems or financial problems, but in either case the result is the same. They need to get out with some financial arrangement tailored to their needs and with at least a shred of dignity intact. As a private party, you are better able to help the troubled owners (and yourself ) than the experts are. You know the consumers’ problems. You can take the time and make the effort to work on one deal at a time, whether it’s for your own home or for an investment. If you’re really motivated, you might even undertake “goldmining” as a small part-time business. It could bring you between $40,000 and $100,000 a year, depending on the energy you expend. A Unique Opportunity Human nature being what it is, there is always someone who wants to get rid of a property because of a personal situation—a divorce, a falling-out with partners, a job transfer. By staying alert for cases like these, specialists in distress property should always be able to find deals. Case Study 1.1 is an example of such a deal. But the time has never been better for aspiring real estate investors. Today the real estate industry is saturated with overfi- nanced properties. The economy is threatened with slowdowns due to overseas problems which could create havoc in home building 1 GOLDMINING IN FORECLOSURE PROPERTIES 2 Case Study 1.1 Mr. and Mrs. Saybrook were the first buyers in a new subdivision (in the early 1950s). Be- cause sales were slow, they were able to purchase their home and receive a building lot free. But after 10 years of an unhappy marriage, they had agreed to separate. I was living close by at the time and noticed their For Sale by Owner sign. After a few visits, I learned the following: Market value of home $60,000 First loan 23,400 Other liens 0 Net equity $36,600 We had no way to determine the value of the extra lot, so we included it as part of the house package. Property was plentiful at that time. Because the Saybrooks’ parents had loaned them the money to purchase their home (with- out security), the Saybrooks felt obliged to repay the loan only if they received a large cash payment. I asked if they would take $1,000 cash apiece as a down payment and let me pay the balance over twenty years at 5 percent interest, with half going directly to each of them. After deducting the $2,000 down payment from $36,600, we had a balance of $34,600. At 5 percent interest, amortized over twenty years, the monthly payment would be $228.34, or $114.17 per month each. This deal seemed custom-made for them, so we agreed to an op- tion period of about sixty days. I knew I could interest a local builder in buying the adjacent lot if the terms were right. He was always interested in “no down” deals. I offered the lot to him for $10,300 with no money down but with monthly payments of $229.12 (based on a five-year term at 12 percent interest). This amount worked in well with his plans (most of the purchase price was deductible interest charges), so he readily agreed. He knew that in five years a lot with sewer and water in an established neighborhood could be worth many times the price he was paying. When we concluded the deal, I had solved the troubled owners’ problem and acquired a beautiful rental property with a small but growing cash flow for only $2,000 down. 3YOUR PLACE IN THE DISTRESS PROPERTY CYCLE and construction. But in chaos there is opportunity, and the real estate industry is no exception. In current conditions, people with skill, capital, and vision can make great profits. The existence of these opportunities is no secret. There is a shortage of capable real estate entrepreneurs, however, so this field is ripe for the taking. Because of the inflated real estate prices over the past several years, buyers have had to take out larger loans than ever before, with extremely large monthly payments. The lenders are all too willing to help. In fact, lenders’ actions seem calculated to over- load borrowers. If the lenders repossess and sell a property, they could increase their profits dramatically, unless the loan is greater than the value of the property. But the borrowers will lose every- thing—home, equity, and credit. In many cases, even a small financial reversal can get the borrowers in trouble. A tremendous flood of distress properties seems all but inevitable. In 2002 the rate of mortgage foreclosures reached the highest rate recorded in 30 years. In one three-month period, the pro- portion of loans on which foreclosures were started reached four per 1,000. Mortgages in the foreclosure process at any one time rose to more than 12 per thousand. The trend has stirred concern among industry leaders, fearing that the industry has been weak- ened by over-financing of homes. Now is a very good time for knowledgeable investors to step in and enrich themselves while helping troubled owners and lenders resolve their problems. Why? Because properties could soon be in more trouble than ever before. More default notices are filed today than at any time in the past ten years. More borrowers and owners of property cannot make payments on their first, second, or even third or fourth loans. The current estimate of delinquencies is well over 3 million per year. The estimated number of foreclosure actions started in court is about 400,000 per year. What’s happening to the other 2.6 million delinquencies? Some are resolved by the owners before foreclosure takes place. But lots of deals are being made, too. If you want to buy a home to live in or to invest in, you should try dealing in distress property. Whether you are male or female, single, married, or living with someone, senior citizen or youngster, this is a great opportunity. With the forms and procedures provided in this book, you can help yourself and save the credit rating of the troubled owners. The Distress Property Cycle The life cycle in distress properties has four distinct stages: • Stage I: Before Legal Action Begins. This is when the owners first stop making payments on the loan (or loans). Financial set- backs, personal changes, and family pressures may all play a role. GOLDMINING IN FORECLOSURE PROPERTIES 4 • Stage II: After Legal Notices Are Filed. At this point the foreclosure clock starts to tick. Only a limited number of days are left for the owners to pay up, sell, or make other deals with creditors. • Stage III: Auction Time. This is how the court legally sells the property to satisfy the unpaid loans. • Stage IV: REOs and Repos. When no one bids the amount owed, the property reverts back to the lender. It becomes an REO (real estate owned) property. When it reaches this stage, you must deal directly with the lender (who is now the owner). Most specialists in distress property work in all four of these stages eventually. As a beginner, you’ll probably want to choose one. The Distress Property Cycle chart in Figure 1.1 can help you decide. Then you can go on to consider a number of other important areas. Analyze the Deal’s Advantages and Disadvantages Each prospective deal has advantages and disadvantages. You have to determine, in light of your own situation, what’s most important for you. Plenty of deals are available. You just have to pick the one you’ll be most comfortable with. Start by analyzing your reasons for seeking title to a distress property. Are you after income from property management? Ap- preciation of capital? A tax shelter? More cash flow? Profit from resale of the property? A home of your own? Once you’ve identified your motives, you can focus on the distress property itself. Each investor has a different way of analyzing values, but several key factors will have to be addressed: • The total amount of investment necessary • When the funds will have to be invested • How much of the return will be in “hard” dollars and how much in “soft” dollars • When the investment dollars will be returned Obviously, before you can make a profit dealing in distress properties, you have to understand the details of any transaction. You are concerned with the same basic questions as the original mort- gagee of that property. In conjunction with your own economic review, you will probably ask the lending institutions certain threshold questions: Are additional funds available from the original lender? Will the 5YOUR PLACE IN THE DISTRESS PROPERTY CYCLE Figure 1.1 Distress Property Cycle lender indemnify you, as the new buyer, against any unforeseen claims against the property? Avoid the Excessive Cost of Banks, Lawyers, and Realtors This book does not and cannot give legal or professional advice. It does show how, with the right research and information, you can avoid all excessive professional costs associated with taking over existing property. For the most part, you just have to be aware of the applicable local, county, and state laws and be alert to some of the economic fundamentals.

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