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REO is an abbreviation for a REAL ESTATE OWNED property. The term REO can be used ambiguously, to describe a specific type of property, but in real estate the phrase real estate owned property indicates that the property in question has been foreclosed on and has been taken back by the mortgage lender or trustee. REOs and FORECLOSUREs are not the same thing, however an REO is only produced as a result of an unsuccessful foreclosure, in which a buyer for the property cannot be found, and so the mortgage lender repossesses the property to sell separately.
Many people ask the question “which is better to buy, a REO or a house being foreclosed on?” The answer is not so straightforward as to give a specific response, instead it is a personal preference relating to the conditions that you find acceptable, and the benefits that you can gain, in the property purchase that you are looking for.
To attempt to answer the question of REO Vs FORECLOSURE property purchase it is good to look at the specifics of each type of purchase, including the benefits and liabilities that you could possibly incur during, and after, the process.
REO: REAL ESTATE OWNED property, as already stated, is a property that a mortgage lender takes back into its ‘care’ as a result of a foreclosure on a home that has not yielded a buyer during a foreclosure sale. There maybe many reasons why a foreclosure sale by the mortgage lender fails (these will be looked at later), leading to a REO sale. The fact that the house is being sold as a REO property should not detract the buyer from the property. In most cases there is nothing suspect, or wrong, with the property that is for sale by the lender, other than the fact that the previous owner could not afford the repayments.
Most real estate agents and realtors will back the idea that for novice homebuyers, those buying their first home, the idea of buying a REO property is a good one for many reasons. Lenders will always highlight the fact that purchasing an REO from them is “the safest way to buy” real estate, generally as a result of there being no risk to the buyer, and no tenants to evict. In fact statistics show that when it comes to buying a home that has been foreclosed on, REO purchases are the more popular method of purchase.
A bank, or mortgage lender, does not want to have a house or property on its books for long. Banks want to make money; more over they want to invest money to make more money, as is the nature of the finance world. When you bank any money the bank will invest your money in the hope of generating a profit for it, hence being able to pay interest on your account. Any house that the bank owns represents a future, potential financial investment that could be generating a profit if it invested into the stock market. Whilst the house sits unoccupied the bank is not making any money from it and therefore it is in the best interest of the bank, or mortgage lender, to sell the house and invest the money.
Adding to the fact that an unsold, reposed home is a not generating money for the bank is the fact that this unsold item can sit on the banks balance sheet and be viewed by the banks shareholders as mismanagement on the part of the bank manager. This indication of mismanagement on the banks part can cause many problems for a bank if the shareholders decide to take action. Remember that in a capitalist economy, the number one goal of a Public Limited Company (one that is traded on the stock market) is to increase shareholder wealth. If shareholder wealth (seen by looking at the increase in share price) is affected by the banks lack of ability to clear bad debts on its balance sheet then the shareholders will be unhappy and can further affect the banks stock and the jobs and careers of its managers, therefore it is in the best interests of the bank, its shareholders and its staff to sell the house as fast as possible.
To generate a quick sale the bank does many things to a prospective buyer, and because of this there are many benefits to buying a REO property. Some of the major benefits are shown below:
Savings of up to 20% off home market values
Generating a quick sale for the lender is of paramount importance. Some large lenders have entire departments specifically for this type of work and therefore want to move through the backlog of properties as efficiently as possible. Added to this idea all of the problems that having a property on its balance sheet can lead to for a bank (as outlined above) and the lender will always offer a lower purchase price for the property, sometimes as large as 20% off the comparative market price of the property.
Most simple way for first time homebuyers and experienced investors to buy properties
Due to the need for a quick sale the lender usually covers all taxes and other problems, such as evictions etc, making the purchase as straightforward as possible for the homebuyer.
Prospective buyers have immediate access to a property for inspections
All homebuyers have the right to have a house inspected by a qualified assessor or appraiser. Sometimes the sellers may only allow the inspection at certain times, due to commitments and other factors. These problems, and various others, are not of concern with a REO purchase and therefore make having an appraisal carried out easier and faster, than would normally be the case.
No back taxes or liens to worry about
Basically this benefit means the following: No tenants to evict and no financial instrument secured by the property. This is good as it avoids all of the possible hassle and stress of hiring a company to evict any tenants.
Negotiable rehab costs, interest, closing points, loan amount, etc.
All of the above factors maybe important to the buyer and therefore, as the lender wants a quick sale, all of the costs, interest etc can be negotiated, usually for better terms than in a normal purchase.
Almost 100% risk-free
When a bank repossesses a home it always provides a good, clear title. What this means is that when you buy the house you know that it is yours and not someone else’s i.e. there is no ambiguity about the ownership of the property.
Less than normal down payment
A lender looking to sell the home may accept a less than normal initial down payment from an interested buyer, to secure the sale of the home.
Though the benefits of a REO property purchase sound excellent, there are only offered as a result of a failed foreclosure sale by the lender. The foreclosure sale is really a bidding war, or auction, to secure the purchase of house that is being forcefully sold by the bank or lender, as a result of a legal process by which a borrower in default under a mortgage is deprived of his or her interest in the mortgaged property.
The foreclosure sale differs to a REO sale in a few major ways. Foreclosure sales begin with a minimum bid by the buyer. This minimum bid has to include the following items:
The loan balance on the property. This is to cover the missing amount that the previous owner could not afford All accrued interest Attorneys fees All costs associated with the foreclosure process.
To bid at a foreclosure auction, you (the buyer) must have a cashiers check in hand for the full amount of your bid. If you are the successful bidder, you receive the property in its “as is” condition. This means that the sale could include someone still living in the property and there might also be liens (a restriction on a certain parcel of property that usually reflects an amount of money due to a third party from the owner of the property) against the property which you will be liable for.
Looking at the benefits of the REO purchase and what you are liable for in a foreclosure sale may leave a person wondering what is the point of a foreclosure sale, as the negatives seem way worse than the positives, especially when compeered to a REO sale. Whilst this is true and is a valid point, one of the main benefits of a foreclosure purchase is that buying from foreclosing lenders often means that they will offer easy financing to quickly get rid of a property they dont want to own. If the property is in especially bad condition then they may even give a very favorable price.
However, since what is owed to the bank is almost always more than what the property is worth, very few foreclosure auctions result in a successful sale. This type of purchase is more favorable to investors rather than homebuyers because normally the tenants will wish to live in the house and pay rent, rather than move (as they may not have the finances) and so buying a foreclosure property may be a good start to renting property, as you already have tenants.
