How To Buy A Foreclosed Home

photo by Taber Andrew Bain

US News & World Report quoted me in  How to Buy a Foreclosed Home. It opens,

As home prices soar in many cities, buyers might look to foreclosures as an affordable option for landing their dream home. Typically, a foreclosure occurs when a homeowner no longer can make the mortgage payments and the lender seizes the property. The lender then requires the former owner to vacate the property before offering it for sale, usually at a discounted price. In some cases, the home is auctioned off to the highest bidder.

Foreclosures offer home shoppers the potential to score a great deal, says Elizabeth Mendenhall, a Realtor in Columbia, Missouri, who is president of the National Association of Realtors.

“Sometimes people think a foreclosure only happens to the lower end of the market, but you can definitely find foreclosures at any price range,” she says.

But while buying a foreclosure can save you a lot of cash, it does come with risks. If you pursue a foreclosure, it helps to have a “stomach of steel,” says David Reiss, law professor and academic programs director of the Center for Urban Business Entrepreneurship at Brooklyn Law School.
“There’s going to be a lot more ups and downs” than in a typical homebuying process, says Reiss, whose work focuses on real estate finance and community development.

Why Buy a Foreclosure?

In recent years, foreclosure sales have been trending downward, according to national property data curating company Attom Data Solutions. That is largely because a strengthening U.S. economy has reduced the number of borrowers who lose their homes as a result of failing to pay the mortgage. In 2017, distressed home sales – including foreclosures and short sales – made up 14 percent of all U.S. single family home and condo sales, according to Attom Data Solutions. That number was down from 15.5 percent in 2016 and a recent high of 38.6 percent in 2011.

Still, some buyers look to foreclosures to get the best possible deal. Homes may be for sale in various states of foreclosure. For example, pre-foreclosure is a period when the owner has fallen behind on payments, but the lender has not actually taken the home from the owner. Homes sold at this point often go through the short sale process, where the lender agrees to accept an amount of money from the buyer that is less than what the current owner owes on the mortgage.

Properties that are already in foreclosure are sold at an online or offline auction, or by a real estate agent. The biggest lure of buying a foreclosure is the potential savings you get compared with buying a similar nondistressed property.

“It can be like a 15 percent discount on your neighboring houses,” Reiss says. “So, it can be significant.”

But Mendenhall says how much you will save depends on the local real estate market and the stage of foreclosure of the property.

The Risks of Buying a Foreclosure

Purchasing a foreclosure involves several substantial risks, so buyers must enter the process with their eyes wide open. In many cases, if you buy a foreclosure at auction, you must purchase the property sight unseen. Reiss says this is the biggest potential danger of buying a foreclosure.

“The big, scary thing is that with a number of foreclosures, you can’t actually inspect the property before you actually bid,” he says. “That’s in part why the prices are below the market.”

Even if you can get a professional inspection on a foreclosure, you typically have to buy the house “as is.” Once you purchase the home, any problems that pop up are yours – as is the responsibility for finding and paying for a remedy. Such problems are more likely in a foreclosure than in a nondistressed property. For example, in some cases, a frustrated family might strip the home of valuable elements before vacating the house.

“Or they kind of just beat it up because they were angry about having to go through the foreclosure,” Reiss says.

The mere fact that the home is vacant also can lead to problems. Reiss says a home is like a plant – if you don’t tend to it regularly, it can wither and die. “If you happen to leave it alone on its own for too long, water leaks in, pipes can burst, rodents can get in, just the elements can do damage,” he says.

Mendenhall adds that people who lose their homes to foreclosure typically have major financial troubles. That can trigger other troubles for the new owner. “If the previous owner was in financial distress, there’s a chance that there’s more maintenance and work maybe that they haven’t completed,” she says.

Reducing the Dangers of Buying a Foreclosure

There are a few things you can do to mitigate the risks associated with buying a foreclosure. For starters, see if you can get a professional inspection of the property. Although buyers often cannot inspect a foreclosure property, that is not always the case. So, be sure to ask a real estate agent or the seller about hiring a home inspector.

“Even though it may extend the process, if you can have a qualified inspector come in, you can know a little bit more about what you’re getting into,” Mendenhall says.

If you can’t inspect the property, Reiss recommends researching its history. Look at publicly available records to find out when the property was last sold and how long the current owner had possession. Also, check whether building permits were drawn and what type of work was done. “Maybe you’ll see some good news, like a boiler was replaced two years ago,” Reiss says. “Or maybe you’ll see some scary news, like there’s all these permits and you don’t know if the work was completed.”

Also, visit the house and perform a “curbside inspection” of your own, Reiss says. “Even if you can’t go inside the house, you want to look at the property,” he says. “If you can peek in the windows, you probably want to peek in the windows.”

Knock on the doors of nearby neighbors. Tell them you want to bid on the property but need to learn all that you can about the previous owners, including how long they lived in the home and whether they took care of it. And ask if there have been any signs of squatters or recent break-ins.

“Try to get all that information,” Reiss says. “Neighbors are probably going to have a good sense of a lot of that, and I think that kind of informal due diligence can be helpful.”

Working with a real estate agent experienced in selling distressed property may help you avoid some of the potential pitfalls of buying foreclosures, Mendenhall says. Some agents have earned the National Association of Realtors’ Short Sales and Foreclosure Resource Certification, or SFR. Such Realtors can help guide you through processes unique to purchasing distressed properties, Mendenhall says.

How to Find a Foreclosure

You can find foreclosures by searching the listings at bank websites, including those of giants such as Wells Fargo and Bank of America. The government-sponsored companies Fannie Mae and Freddie Mac also have listings on their websites.

The federal government’s Department of Housing and Urban Development owns and sells foreclosed homes. You can find listings on the website.

Private companies such as RealtyTrac offer foreclosure listings online, typically for a fee. Finally, you can contact a real estate agent who will find foreclosures for you. These agents may help you find foreclosures before others snatch them up.

Is a Foreclosure Right for You?

Before you pursue a foreclosure, Reiss encourages you to ask yourself whether you are in a good position to take on the risk – and, hopefully, to reap the reward – of buying a foreclosure. It is possible to use conventional financing, or even a loan from the Federal Housing Administration or Department of Veterans Affairs, to buy a foreclosure. However, people with deeper pockets are often better candidates for buying a foreclosure.

Because the process can be highly competitive, buyers with access to large amounts of cash can swoop in and land the best deals. “You can get financing, but you need to get it quickly,” Reiss says. “I think a lot of people who go into purchasing foreclosure(s) want to have the cash to just kind of act.”

Sellers of distressed properties love cash-only buyers, because the home can be sold without a lender requiring either a home appraisal or a home inspection. “So, the more cash you have on hand, the more likely you’re playing in those sandboxes,” Reiss says.

In addition, buyers of foreclosures often need to spend money to bring a property up to code or to make it competitive with other homes in the neighborhood. “Have a big cushion in case the building is in much worse condition than you expected,” Reiss says.

He cites the example of someone who buys a foreclosure, only to discover that the piping has been stripped out of the basement and will cost $10,000 to repair and replace. “You need to know that you can handle that one way or the other,” Reiss says.

People with solid home maintenance and repair skills also are good candidates for buying a foreclosure. “I think if you’re a handy person, you might be able to address a lot of the issues yourself,” Reiss says. He describes such buyers as anyone who has “a can-do attitude and is looking to trade sweat equity for home equity.”

Reiss and Mendenhall agree that flexibility is crucial to successfully shopping for and purchasing a foreclosure. Mendenhall notes that a foreclosure sale can take a long time to complete. “It can be a long process, or a frustrating one,” she says. “It can depend upon where they are in the foreclosure process. It can take a much longer time to go from contract to close.”

For that reason, a foreclosure might not make sense for buyers who need to move into a property quickly, she says. Also, think hard about how you really feel about buying a house that needs extensive renovation work that might take a long time to complete.

“It can be hard for some people to live in a property and do repairs at the same time,” Mendenhall says.

Rising Mortgage Borrowing for Seniors

graphic by www.aag.com/retirement-reverse-mortgage-pictures

J. Michael Collins et al. have posted Exploring the Rise of Mortgage Borrowing Among Older Americans to SSRN. The abstract reads,

3.6 million more older American households have a mortgage than 2000, contributing to an increase in mortgage usage among the elderly of thirty-nine percent. Rather than collecting imputed rent, older households are borrowing against home equity, potentially with loan terms that exceed their expected life spans. This paper explores several possible explanations for the rise in mortgage borrowing among the elderly over the past 35 years and its consequences. A primary factor is an increase in homeownership rates, but tax policy, rent-to-price ratios, and increased housing consumption are also factors. We find little evidence that changes to household characteristics such as income, education, or bequest motives are driving increased mortgage borrowing trends. Rising mortgage borrowing provides older households with increased liquid saving, but it does not appear to be associated with decreases in non-housing consumption or increases in loan defaults.

The discussion in the paper raises a lot of issues that may be of interest to other researchers:

Changes to local housing markets tax laws, and housing consumption preferences also appear to contribute to differential changes in mortgage usage by age.

Examining sub-groups of households helps illuminate these patterns. Households with below-median assets and those without pensions account for most of the increase in borrowing. Yet there are no signs of rising defaults or financial hardship for these older households with mortgage debt.

Relatively older homeowners without other assets, especially non-retirement assets, may simply be borrowing to fund consumption in the present—there are some patterns of borrowing in response to local unemployment rates that are consistent with this concept. This could be direct consumption or to help family members.

Older homeowners are holding on to their homes, and their mortgages, longer and potentially smoothing consumption or preserving liquid savings. Low interest rates may have enticed many homeowners in their 50s and 60s into refinancing in the 2000s. Those loans had low rates, and given the decline in home equity and also other asset values in the recession, paying off these loans was less feasible. There is also some evidence that borrowing tends to be more common in areas where the relative costs of renting are higher–limiting other options. Whether these patterns are sustained as more current aging cohorts retire from work, housing prices appreciate, and interest rates increase remains ambiguous.

The increase in the use of mortgages by older households is a trend worthy of more study. This is also an important issue for financial planners, and policy makers, to monitor over the next few years as more cohorts of older households retire, and existing retirees either take on more debt or pay off their loans. Likewise, estate sales of property and probate courts may find more homes encumbered with a mortgage. Surviving widows and widowers may struggle to pay mortgage payments after the death of a spouse and face a reduction of pension or Social Security payments. This may be a form of default risk not currently priced into mortgage underwriting for older loan applicants. If more mortgage borrowing among the elderly results in more foreclosures, smaller inheritances, or even estates with negative values, this could have negative effects on extended families and communities.

The Homeownership Rate and The Kerner Commission

 

photo by Marion S. Trikosko

President Johnson with some members of the National Advisory Commission on Civil Disorders, also known as the Kerner Commission

The Economic Policy Institute released a report, 50 Years After The Kerner Commission.  It finds that “African Americans are better off in many ways but are still disadvantaged by racial inequality.” (1) The report opens,

The year 1968 was a watershed in American history and black America’s ongoing fight for equality. In April of that year, Martin Luther King Jr. was assassinated in Memphis and riots broke out in cities around the country. Rising against this tragedy, the Civil Rights Act of 1968 outlawing housing discrimination was signed into law. Tommie Smith and John Carlos raised their fists in a black power salute as they received their medals at the 1968 Summer Olympics in Mexico City. Arthur Ashe became the first African American to win the U.S. Open singles title, and Shirley Chisholm became the first African American woman elected to the House of Representatives.

The same year, the National Advisory Commission on Civil Disorders, better known as the Kerner Commission, delivered a report to President Johnson examining the causes of civil unrest in African American communities. The report named “white racism”—leading to “pervasive discrimination in employment, education and housing”—as the culprit, and the report’s authors called for a commitment to “the realization of  common opportunities for all within a single [racially undivided] society.” The Kerner Commission report pulled together a comprehensive array of data to assess the specific economic and social inequities confronting African Americans in 1968.

Where do we stand as a society today? In this brief report, we compare the state of black workers and their families in 1968 with the circumstances of their descendants today, 50 years after the Kerner report was released. We find both good news and bad news. While African Americans are in many ways better off in absolute terms than they were in 1968, they are still disadvantaged in important ways relative to whites. In several important respects, African Americans have actually lost ground relative to whites, and, in a few cases, even relative to African Americans in 1968. (1, footnote omitted)

I was particularly shocked by one figure in the report:

One of the most important forms of wealth for working and middle-class families is home equity. Yet, the share of black households that owned their own home remained virtually unchanged between 1968 (41.1 percent) and today (41.2 percent). Over the same period, homeownership for white households increased 5.2 percentage points to 71.1 percent, about 30 percentage points higher than the ownership rate for black households. (4)

It is pretty extraordinary that the homeownership rate for African Americans has not really gone up, given all of the resources that were directed to increasing it. The FHA, Fannie, Freddie and other government programs have all focused on increasing that rate for decades. People of different political stripes will read what they want into this state of affairs. My own take is that wage instability has driven down homeownership rates across the board, but that it has hit African American households particularly hard. Households cannot commit to homeownership if they cannot reasonably depend on getting their wages month-in, month-out.

Improving the 30-Year Mortgage

Wayne Passmore and Alexander von Hafften have posted Improving the 30-Year Fixed-Rate Mortgage to SSRN. The abstract reads,

The 30-year fixed-rate fully amortizing mortgage (or “traditional fixed-rate mortgage”) was a substantial innovation when first developed during the Great Depression. However, it has three major flaws. First, because homeowner equity accumulates slowly during the first decade, homeowners are essentially renting their homes from lenders. With so little equity accumulation, many lenders require large down payments. Second, in each monthly mortgage payment, homeowners substantially compensate capital markets investors for the ability to prepay. The homeowner might have better uses for this money. Third, refinancing mortgages is often very costly. We propose a new fixed-rate mortgage, called the Fixed-Payment-COFI mortgage (or “Fixed-COFI mortgage”), that resolves these three flaws. This mortgage has fixed monthly payments equal to payments for traditional fixed-rate mortgages and no down payment. Also, unlike traditional fixed-rate mortgages, Fixed-COFI mortgages do not bundle mortgage financing with compensation paid to capital markets investors for bearing prepayment risks; instead, this money is directed toward purchasing the home. The Fixed-COFI mortgage exploits the often-present prepayment-risk wedge between the fixed-rate mortgage rate and the estimated cost of funds index (COFI) mortgage rate. Committing to a savings program based on the difference between fixed-rate mortgage payments and payments based on COFI plus a margin, the homeowner uses this wedge to accumulate home equity quickly. In addition, the Fixed-COFI mortgage is a highly profitable asset for many mortgage lenders. Fixed-COFI mortgages may help some renters gain access to homeownership. These renters may be, for example, paying rents as high as comparable mortgage payments in high-cost metropolitan areas but do not have enough savings for a down payment. The Fixed-COFI mortgage may help such renters, among others, purchase homes.

The authors acknowledge some drawbacks for Fixed-COFI mortgages that can make them unattractive to some borrowers:

What do homeowners lose by choosing Fixed-COFI mortgages instead of traditional fixed-rate mortgages? First, they cannot freely spend refinancing gains on non-housing items. When mortgage rates fall, homeowners with Fixed-COFI mortgages automatically pay less interest and pay down the mortgage principal more. Second, they can no longer “win the lottery” played with capital markets investors and lock in a substantially lower rate for the remainder of their mortgage. With Fixed-COFI mortgages, homeowners trade the option of prepayment for faster home equity accumulation. We believe that many households may prefer Fixed-COFI mortgages to traditional fixed-rate mortgages. Furthermore, we believe that many renting households without savings for a down payment may prefer Fixed-COFI mortgages to renting. (4)

American households rely too much on the plain vanilla 30-year fixed rate mortgage for their own good. Papers like this give us some reasonable alternatives that might be better suited for many households.

Reverse Mortgage Drawbacks

photo by www.aag.com

US News and World Report quoted me in 6 Drawbacks of Reverse Mortgages. It opens,

For some seniors, reverse mortgages represent a financial lifeline. They are a way to tap into home equity and pay the bills when meager savings won’t do the job. Others view this financial product with suspicion and point to stories of seniors losing their homes because of the fine print in the paperwork.

Amy Ford, senior director of home equity initiatives and social accountability for the National Council on Aging, says regulatory changes were made in recent years to eliminate many of the horror stories associated with reverse mortgages gone wrong. Home equity conversion mortgages – as reverse mortgages through the Federal Housing Administration are known – now incorporate many consumer protections. These help seniors ensure they can afford the loan and are aware of its potential consequences.

“It’s a magic credit line,” says Jane Bryant Quinn, AARP Bulletin personal finance expert, when asked why people would want a reverse mortgage. “It increases every year at the same rate as the interest you pay.” She recommends that seniors consider taking out a HECM line of credit and then borrowing against it sparingly. That way, retirees have protection against inflation and a source of income in the event of a down market.

Despite their appealing benefits, some financial experts urge caution. “I wouldn’t say there is no place for reverse mortgages,” says Ian Atkins, financial analyst for Fit Small Business. “But that doesn’t make a reverse mortgage a good option for everyone.”

Here are six drawbacks to reverse mortgage products.

1. Not every reverse mortgage has the protections of a HECM. While HECMs are the dominant player in the reverfederally insured

consumer proptection

se mortgage market, seniors could end up with a different product. Atkins says single purpose reverse mortgages are backed by a state or non-profit to allow seniors to tap home equity for a specific purpose, such as making home repairs or paying taxes. There are also proprietary reverse mortgages, sometimes called jumbo reverse mortgages, available to those who want a loan that exceeds the HECM limits.

These proprietary reverse mortgages make up a small portion of the market, but come with the most risk. They aren’t federally insured and don’t have the same consumer protections as a HECM.

A reverse mortgage can be a lifesaver for people with lots of home equity, but not much else.

“Another common issue with [proprietary] reverse mortgages is cross-selling,” Atkins says. “Even though it may not be legal, some companies will want to push investments, annuities, life insurance, home improvements and any other number of products on their borrowers.”

2. Other people in the house may lose their home if you move. HECMs are structured in such a way that once a borrower passes away or moves out, the balance on the loan becomes due. In the past, some reverse mortgages were taken out in one person’s name and the non-borrowing spouse’s name was removed from the title. When the borrowing spouse died or moved to a nursing home, the remaining husband or wife often needed to sell the house to pay off the loan.

“There are now some protections for those who were removed from titles,” Ford says. However, the protections extended to non-borrowing spouses do not apply to others who may be living in the house.

A disabled child, roommate or other relative could wind up without a place to live if you take out a reverse mortgage, can no longer remain in the home and don’t have cash to pay off the balance. “If it’s a tenant, you might not care,” says David Reiss, a professor at Brooklyn Law School and author at REFinBlog.com. “But if it’s your nephew, you may care.”

3. Your kids might be forced to sell the family home. If you’re hoping to pass your home on to your children, a reverse mortgage can make that difficult. Unless they have cash available to pay off the loan, families may find they have no choice but to sell once you’re gone.

That isn’t necessarily a reason to rule out a reverse mortgage, but Ford encourages parents to discuss their plans with family members. Everyone with a stake in the home – either emotional or financial – should understand what happens to the property once the borrower can no longer live there.

4. The mortgage balance might be due early if you have trouble paying your property taxes, insurance or homeowners association fees. Reiss says the marketing for some reverse mortgages can make seniors feel like the product is a cure-all for money problems. “There’s this promise that reverse mortgages will take care of your finances,” he says. “What they don’t mention is that your mortgage doesn’t cover your property taxes.”

If a borrower fails to pay taxes, maintain insurance or keep current with homeowners association dues, the lender can step in. Ford says many companies will try to work with a borrower to address the situation. However, repeated missed payments could result in the loan being revoked.

Financial counseling requirements for HECMs are designed to prevent these scenarios. Quinn says some companies will take additional precautions if warranted. “If the lender thinks there’s a risk you’ll run out of cash, it will set aside part of the loan for future taxes and insurance,” she says.

5. Fees can be high. The Consumer Financial Protection Bureau notes reverse mortgages are often more expensive than other home loans. “Don’t just assume that because it’s marketed to seniors without a lot of money, that it is the most cost-efficient way of solving your [financial] problem,” Reiss says. Depending on your needs, a traditional line of credit or other loan product may be a cheaper option.

Using Home Equity Responsibly

photo by Scott Lewis

Chase.com quoted me in How a Home Equity Line of Credit Can Help Your Family. It reads,

If you’re a homeowner, you could qualify for a unique financial product: the Home Equity Line of Credit (HELOC). HELOCs allow you to borrow money against the equity you have in your home and similar to a credit card, they offer a revolving credit line that you can tap into as needed.

“Equity is the market value of your home less what you owe on your mortgage balance,” explains David Lopez, a Philadelphia-based member of the American Institute of Certified Public Accountant’s Financial Literacy Commission.

With home values on the rise and interest rates historically low, HELOCs are an attractive option right now. Plus, according to Lopez, for most borrowers, there’s the added benefit of a potential tax deduction on the interest you pay back.

However, since your home is on the hook if you can’t meet your debt obligations, you’ll have to be cautious, explains David Reiss, a professor at Brooklyn Law School and editor of REFinblog, which covers the real estate industry.

So, what are the most common reasons you might consider leveraging this tool? According to the Novantas 2015 Home Equity Survey, 50 percent of people said they opened a HELOC to finance home renovations, upgrades and repairs.

That was the case for Laura Beck, who along with her husband, used their equity to fund a substantial home renovation that doubled their square footage and home’s value.”The HELOC let us do a full renovation right down to re-landscaping the yard without being nervous about every penny spent,” she says.

Interested? Here are a few of the most common reasons people leverage a HELOC:

Home improvement expenses

Upgrades to your home can increase the market value and not to mention, allow you to enjoy a house that is customized to fit your family’s needs.

Pro Tip: Some improvements and energy efficient upgrades, such as solar panels or new windows may also score you a bonus tax credit, says Lopez.

Debt Consolidation

Exchanging high interest debt (like credit cards) for a lower interest rate makes sense, especially since interest payments on your HELOC are usually tax deductible, says Lopez.

Pro Tip: Reiss stresses how important it is to “be cautious about converting unsecured personal debt into secured home equity debt unless you are fully committed to not running up new balances.”

Surprise expenses

When faced with a situation in which money is the only thing preventing you from getting the best medical care, a HELOC can be a literal life saver, Reiss explains.

Pro Tip: If you need to pay an existing medical bill, however, try negotiating with the health care provider rather than use your equity, says Reiss. Often, they are willing to work something out with you, and you won’t have to risk your house.

College expenses

Reiss explains how a good education can improve one’s career outlook, increase earnings, and has the potential of offering a strong return on your investment.

Pro Tip: Before turning to your equity for education costs, try to maximize other forms of financial aid like scholarships, grants, and subsidized loans.

No matter your reason for considering a HELOC, if used responsibly it can be a great tool, says Reiss. For information on how to qualify, speak to a banking professional to see if this is a good option for you.

Tapping Home Equity for Retirement Income

photo by www.aag.com/retirement-reverse-mortgage-pictures

Newsday quoted me in Consider Tapping Your Home Equity for Retirement Income (behind paywall). It opens,

Just as Dorothy in the “Wizard of Oz” had her ruby slippers that could have gotten her back to Kansas at any time with three clicks of her heels, retirees have the option of tapping their home sweet home to bridge income shortfalls.

Yet, according to research from the National Council on Aging, only 20 percent of retirees polled said they would be willing to use their home equity to generate income. Information was obtained through focus groups with 112 people aged 60 to 75, and two surveys of 254 financial advisers and 1,002 older homeowners.

When you’re in a pinch, here’s how to get the max out of your home.

– Get over the notion a home is sacred: “Using your home equity to generate retirement income can help you delay claiming Social Security,” says Gary Borowiec, a financial adviser and managing partner at Atlas Advisory Group in Cranford, New Jersey.

– Audit your housing situation: Determine if you’re using your home equity wisely. “Is a senior citizen living in the same home where she raised her children who have now gone off to live on their own? Would it make sense to downsize to an apartment with lower costs and fewer maintenance issues? If so, redirect some of the equity from the original home to investments that can generate an income stream over the course of her retirement,” says David Reiss, a professor at Brooklyn Law School specializing in real estate.