If you are a real estate investor in this market, it is almost certain that you will be looking at houses that are “short sales” and properties that have been foreclosed on (also called REO or bank-owned properties). When working with customers, I often get the question: “Do you get a better deal with a short sale or with a foreclosure.” Before I give you my answer, let’s review the foreclosure time line and terminology (I will speak to Minnesota Real Estate specifically, but other states are very similar):
Pre-Foreclosure
Mr. and Mrs. Homeowner are happy in their house and paying their mortgage on time. Unfortunately, a life change (loss of job, illness, divorce, etc), forces them to miss a payment. The bank that holds their mortgage (or the mortgage servicing company), calls the homeowner with a gentle reminder that they missed a payment and to feel out the situation. Maybe Mr. and Mrs. Homeowner pay the past due payment and life goes on, but maybe they don’t. Maybe they tell the bank they are sending the payment, but they never do.
Bank Processes Foreclosure
When the bank finally believes that Mr. and Mrs. Homeowner are not going to pay the past due payments, they contact their Minnesota real estate attorney. Mr. Attorney starts the foreclosure process by filing paperwork at the county court and is given a date for the sheriff’s sale. In the state of Minnesota, 95% of the foreclosures are done by advertisment foreclosure. The foreclosing bank must advertise in the paper (Finance and Commerce in Minneapolis) for 6 weeks prior to the sheriff’s sale. During this time, the bank will continue to try and get Mr. and Mrs. Homeowner to pay their past due amounts, including offering to add the missed payments onto the end of the loan.
At the Sheriff’s Sale
Unlike the information that the late-night infomercials give you, the sheriff sales in Minnesota are non-events. At 8:00 am, the sheriff “sells” the house to the highest bidder, which there is usually only one (the mortgage holding bank). At this point, the bank does not own the property, they simply have a legal right (called a “certificate of redemption”) to redeem the property at the end of the redemption period. The homeowner and/or tenants do not have to move on that date. It is just a legal proceeding.
The Redemption Period
The mortgage is now gone. Mr. and Mrs. Homeowner can not simply pay the past due amounts and make everything better. They must secure a new mortgage or find other sources of money to buy the certificate of redemption from the bank to stop the foreclosure process. This period is called the “Redemption Period” and lasts exactly 6 months, starting on the date of the sheriff’s sale. Again, the homeowner and/or tenants do not have to move out. Plus because the mortgage is now void, the bank will not accept any payments from Mr. and Mrs. Homeowner. They are living for free.
End of the Redemption Period
On the last day of the redemption period, the home legally becomes the property of the bank. They will typically have a company go over to the property and see if it is vacant. If the homeowner and/or tenants do not move out, they now have the same rights as a standard tenant that stays past the end of their lease. They must be evicted! The eviction process typically takes about 3 weeks in most Minnesota counties. Sometimes the bank will offer “cash for keys” which is where the bank will give the homeowner or tenant $200-$400 to leave the premises cooperatively.
The House is now a REO
As soon as the property is confirmed vacant, the bank will change the locks. Depending upon time of year, condition of the house, and the bank’s backlog of properties, it can take 2-6 weeks for it to be listed with a Minnesota real estate broker. The list price is set by the bank after they obtain BPOs (broker price opinions) from 2-3 real estate agents. These are basically a mini-appraisals to help the bank determine a list price.
The Short Sale?
A short sale is simply selling the house for less than is owed to the bank anytime prior to the end of the redemption period. This process is complex and typically can not be done by Mr. and Mrs. Homeowner. The short sale has some requirements:
- Banks most often will only talk with a licensed real estate agent about doing a short sale.
- Mr. and Mrs. Homeowner must show that they can no longer pay the mortgage at the current amount. This will include submitting financial records and a “hardship letter” explaining how they arrived in this situation.
- A bank will typically not discuss a short sale unless the homeowner has missed at least one mortgage payment.
- Before the house is ever listed for sale, the real estate agent should be in contact with the bank to see if they will even allow a short sale.
- The bank does not set the price of the house in the short sale. The real estate agent lists the house on the market and when an offer is received, the offer, the hardship letter, and Mr. and Mrs. Homeowners financial records are submitted to the bank for approval.
Short Sale vs Foreclosure
Unfortunately, I believe there is not a clear cut answer to this question of: “Do you get a better deal with a short sale or with a foreclosure”. Here is what I have seen:
Short Sale:
- Because Mr. and Mrs. Homeowner are motivated to sell the property during a short sale, it is typically in better shape than a bank-owned property. Often they are still living in the house or the tenants will still be in place.
- The banks appear to give their short sale negotiators more latitude to move on the price so often low-ball offers will be accepted.
- Including a letter with your offer can help explain how you arrived at the price you are submitting in a short sale. These same letters will never be read with a REO property.
- A good short-sale real estate agent will include comps to support your offer price, thereby helping your offer.
Bank-owned Property:
- In neighborhoods where there are a significant amount of foreclosures, banks will simply continue to lower the price until the property sells. (This is why there are $30,000 houses in North Minneapolis).
- A REO property will often be in worse shape (than a short-sale property) as it has often been neglected or vandalized while vacant.
- A bank may have 1000s of REO properties on their books and they have no emotional attachment to this one property. They have company guidelines that allow them to only accept offers within a pre-determined percentage below the current list price. If you are outside those boundaries, they will not accept the offer.
Your Criteria
Additionally, I believe the answer, depends upon the neighborhood, the type of property you are buying, and your investment strategy.
Neighborhood
Particular neighborhoods may have short sales, but you may rarely see foreclosures. These are typically strong performing neighborhoods like South Minneapolis (around the lakes), Edina, Mac/Groveland in St. Paul. Other neighborhoods like North Minneapolis will have primarily foreclosures.
Type of Property and Investment Strategy
If your goal is to buy an investment property that is ready to go, a short sale will typically be your best solution as it will often still have tenants occupying the property. If you want to maximize your long-term capital appreciation in property, buying a foreclosure that needs rehab is your solution. If you goal is to buy a single family house and move in, the answer depends upon if you want move-in ready or you want to do some work prior to move in (most foreclosures require some work prior to move in).
The Experts Answer
OK. OK. I know you are thinking: “why doesn’t he finally get to the end of this and tell me what I want to know!”…I spoke to a couple agents that work both short-sales and REOs as they will often list the property before and after the redemption period. Most say that the bank will put the REO property on the market at the same price as it was recently listed at during the short sale. Other banks will actually start the property higher to give them room to “season” the price, lowering it gradually until sold.
The answer is: “Buy the property when the price works for you according to your investment strategy. You may not see the price drop any further once it becomes a foreclosure and you may lose it to another buyer waiting for that price drop.”
30 comments
#1foreclosurefishMarch 10, 2008, 10:59 am
Good post on the foreclosure process. Investors should be more concerned with their overall strategy, rather than just making the most money in the short run from any given property. Not everyone wants to rehab a house, even if they can make more money that way. If the house is never going to be rehabbed and sold because the investors have no interest in doing that kind of work, then it’s better to conform to the overall investing strategy. Chasing returns is never a very productive activity.
#2John GallMarch 10, 2008, 3:07 pm
Excellent post! One thing to add on the short sale. It can take weeks i’ve even heard months just to get the bank to reply to your offer on a short sale. Sometimes the sellers agent will string along those who’ve made an offer with promises that the bank will reply this week etc. If making an offer on a short sale be prepared to wait for even a counter from the bank.
#3Investment PropertyMarch 10, 2008, 3:09 pm
John-
Good point. Many banks have gotten better about this process as they know they are going to lose some buyers with their delays. Sounds like you encountered one that did not get that memo!
#4GotForeclosureMarch 10, 2008, 10:38 pm
Great points, thank you for this article! One other good source for a swell deal can be a foreclosure auction that lenders put on AFTER the property hasn’t sold to a retail buyer.
Plus, depending on the direction of your local market, later might mean cheaper anyway…
#5KC InvestmentsMarch 11, 2008, 3:51 pm
Very good piece on the process in Minn. Sometimes it works better to buy the short, sometimes the foreclosure, sometimes the house across the street under no financial stress what-so-ever.
#6Florida Luxury HomesMarch 12, 2008, 8:11 am
If you are a patient person and don’t get emotionally involved in the process a short sale may be a great deal if you choose the right one and do research how much it was bought for and when was it bought for during the housing boom. Maybe not buying the best one in the area but the second best has less activity. Being prepared to invest months and it fall thru. It’s a gamble and can be a discount but so can taking advantage of interest rates now and a foreclosure.
#7Chandler-PropertyMarch 12, 2008, 9:35 pm
Good post. I liked the diagram that draws out the foreclosure process. I am getting married this summer and we are patiently tip-toeing into the idea of buying a foreclosure for our primary residence. We’ll see if any really good deals pop up for me in Chattanooga.
#8Ellijay GA Real EstateMarch 13, 2008, 7:50 am
Many investors are taking advantage of the short sales as they wait for the bottom where they plan to buy houses. The short sale gives them the time to work on both.
I think personally waiting for a foreclosure is the way most traditional buyers will go.
#9Florida Beach Condos For SaleMarch 14, 2008, 8:33 am
Give me the best deal I can wait. I have waited many years for a house and I can wait months more. Many are trying the short sale process. It may take a while and not work out and then you move onto the next one. Finding the right one to do a short sale on. One that may be a fixer and may scare some away. You most likely will want to change things anyway so consider this house first. This can be the one where your offer is the best option they have and they will accept it. Great interest and a nice discount on a house and you got yourself a diamond in the rough!
#10GotForeclosureMarch 14, 2008, 1:54 pm
When the market is dropping rapidly, you can readjust the short sale offer and work with the lender. They are getting very motivated to keep houses OFF their books right now!
#11Florida Luxury HomesMarch 17, 2008, 7:21 am
Nice post and with so many trying to understand the foreclosure process and short sale process. Many people don’t want to bother with short sale and just jump in and take advantage of the foreclosure. There is something for everyone out there and meeting with a lender and realtor is the best way to see if there is something for you.
#12Hotels And Resorts In HawaiiMarch 18, 2008, 7:07 am
This would be a great time to invest in a vaction rental property. Taking advantage of prices for foreclosures is a plus and low interest rates and 1031 tax credit.
Find you shangrala and start lookiing at houses and enjoy your next vacation as well.
#13Port Orange Homes For SaleMarch 19, 2008, 7:42 am
A very popular question in america today. Many are choosing the foreclosure and have heard horror stories of short sales taking forever and not working out.
Many find a house and get attached and thats the final choice the house itself.
#14Orlando Florida Real EstateMarch 20, 2008, 8:06 am
Exactly the short sale may be bad investment in many ways. In time it takes to execute and did you really get the best price for the house.
#15buy housesApril 1, 2008, 11:16 am
If you’re interested in selling your house fast, looking for a local investor that places We Buy Houses ads in local papers is often a great method of finding a buyer. You also may want to look around your neighbourhood for signs that advertise We Buy Houses. This can also done online.
#16Tax ForclosuresJune 19, 2008, 12:14 am
Well im not interested in selling my house…but great points, thank you for this article! One other good source for a bigger deal can be a foreclosure auction that lenders put on AFTER the property hasn’t sold to a retail buyer.
#17RonJune 24, 2008, 11:39 pm
One thing also to think of is when buying new construction during a short sale process, many sub contractors may get their full amount of slightly less, whereas when you buy that new construction from the bank and it has had it’s opportunity to go through the entire foreclosure process, and no subcontractor or junior lien redeemed, you are talking about a clean slate on all work and liens performed by subcontractors.
#18RonJune 26, 2008, 4:43 pm
Good post, I like the see saw picture. I totally agree that sellers shouldn’t try to do one of these themselves, especially in this market when they are as busy as they are, an expert agent is needed. What is your experience with banks trying to shorten that 6 month redemption period to 5 weeks through the “definition of abandonment” under Minnesota Foreclosure law, do you find the banks to be very agressive on this or do you find the future REO agents to come knockin’ early in the process to speed things up? What have you seen from that angle?
#19OrandoRealyExpertNovember 18, 2008, 3:28 am
A short sale can help people who are behind on their mortgage payments and can no longer afford their homes, but want to avoid foreclosure regardless of good or bad credit.The short sale process can be very complicated, one that requires patience, persistence and a great deal of experience. All lenders prefer to work with realtors who have mastered the intricacies of short sales. Beware of fraudulent offers, do not sign over the Deed or Title of your property to anyone claiming they will find a buyer or they can ‘cash you out’. Only work with licensed people.
#20AtchutJanuary 13, 2009, 3:22 pm
Good Article… Article talks about short sale process very well. I like the diagram. I totally agree that investment goal guiding principle in choose between short sale or foreclosure. All said and done short sales is less painfull for ownwer.
#21Andrea AnthonyMay 1, 2009, 10:11 am
The home I’m renting went to sheriffs auction in April. A contractor has a $30,000 lien against the house. Is it possible for me to purchase the house by either paying the lien or contacting the bank? What information do I need and who can I talk to first?
#22Scott FicekMay 4, 2009, 10:22 am
You should contact the owner of the property for starters. The bank can’t sell it to you until the end of the redemption period (6 months after the sheriffs sale).
#23real estate investingMay 8, 2009, 3:25 pm
It makes sense investing in real estate during depression since prices are falling but you should be very attentive to know when the prices hit the bottom, you might miss the ride.. You can park the properties and sell it later for a good price and remember “millionaires are made during economy depression!”.
#24Dean WilliamsMay 20, 2009, 9:38 pm
the best thing to do is talk to your lender about a short sale rather than going in for a foreclosure. If he agrees, you can prevent a deficiency judgment.
Another advantage with a short sale is that it can improve your credit, as it will feature as a ’settled debt’. Of course, it all depends on what your lender agrees to, so talk to him about it to establish how it will figure on your credit report and preferably get it in writing.
A short sale means the loss of your home. You can refer to online resources like [removed by admin] for solutions to help you keep your home as well as for valuable resources like articles, videos and guides that will help you prevent foreclosure.
A majority of mortgage companies prefer not to file a deficiency judgment against you for good reason. They are aware that a foreclosure does not spare you any funds to pay the deficiency judgment and court fees and therefore, it would be futile for them to waste their time, money and efforts over this.
#25RonJune 5, 2009, 10:19 am
Good article Mike Jacka was on the news a month or so ago talking about how some reo’s are cheaper than short sales if you just wait, based on banks not knowing one department from another. Keep up the good work with the articles.
#26RonJune 19, 2009, 10:01 pm
The arrow diagram with the timeline is good, that’s easier for people to understand that way, nice work.
#27JeanneSeptember 13, 2009, 1:07 am
I’m interested in working a short sale both prior to sheriff’s sale and during the redemption period, How do lenders look at both sides?? Anyone better than the other??
#28Scott FicekSeptember 14, 2009, 10:35 am
I don’t think they look at the deal any different if it is before or after the sheriff’s sale. Since they are located in a different state, and each state has different redemption periods, I don’t think the bank cares.
#29JeanneSeptember 14, 2009, 10:28 pm
I guess I have the concern, that if the short sale is signed during the redemption period, who signs the contract, the lender??, as the homeowner has no rights at that point., Am I right?
#30Scott FicekSeptember 16, 2009, 9:41 am
The home owner still signs the contract as they own the house until the end of the redemption. They just need to get approval to get the bank to release the lien on the property.
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