I was driving down the road the other day when I heard an advertisement that said, “Banks have hundreds of foreclosure properties, and they are very motivated to sell, and will take pennies on the dollar. Often times they will even finance them for little to no money down.” Sounds great, doesn’t it?
Chances are you’ve probably heard something similar and thought to yourself, “If it’s this easy, why doesn’t everyone buy properties this way?”
Now, I’m not here to tell you that you can’t get all of these things when buying bank real estate owned (REO) investment properties. Sometimes you can find a bank that will also finance the REO and is motivated. However, just because they are motivated or will finance it doesn’t mean it will be easy. While you can find great deals buying REOs, it does often times come with a price. REOs can be very challenging to purchase even when the bank is motivated, and buying bank owned REOs is not for the faint of heart.
Here are some of the biggest challenges to buying bank owned investment properties:
Lack of historical financial information – When you buy bank owned REO investment properties, often times there are very few financial statements to review. The financial picture can be a little murky. Let me explain: Most of the time when a bank takes over an investment property it’s because the property is not performing well. When they foreclose on the property, the owner doesn’t necessarily turn over all of their historical financial statements. Therefore, the bank may not have the financials to provide to you from when the previous owner operated the property.
If they have records, often times they are incomplete. Chances are a new management company has been hired. They will provide you with the current operations, but can only provide you information from when they took over the property. It’s normal to base your offer on only a few months of operating history. This lack of historical financial information makes it imperative for you to understand and be able to do your own evaluation of the property to make an informed investment decision.
Contract negotiations can be difficult and costly – Getting banks to agree to your offers can be difficult. Banks can be very hard negotiators. It can also be hard to get to the true decision maker. And, once you get the decision maker to agree, it doesn’t mean the bank committee will agree or not change things. Just because you have a Letter of Intent (LOI) (link to article) agreed to, that doesn’t mean the contract negotiations are over. Sometimes they are just getting started. Banks have very expensive attorneys and cumbersome contracts that can be timely and costly to negotiate. Banks can be very hard to negotiate with and have no problem reopening the negotiations during the contract phase.
Banks are used to getting their way. Most are less flexible than an individual seller and will have no problem pushing back on things you thought were already agreed to. You must have a good attorney to help you navigate the contract phase and make sure you are protected. Be ready for a bigger than normal legal bill to get your deal done. Also, be prepared to stand your ground and walk away if necessary. Banks will keep pushing until you push back.
They will expect you to put up a bigger deposit – In a typical investment property purchase the buyer will put down a good faith deposit when the contract is signed. This is usually 1-2% of the purchase price. It is put into escrow and credited to the sale when you close. It is normally refundable during the due diligence inspection period. Banks often require you to put a much higher percentage of the purchase price down as a deposit. It’s not uncommon for them to ask for upwards of 5% of the purchase price.
They can also require the deposit to go “hard” as soon as the contract is signed. The term going “hard” means that the deposit money is non-refundable. They can require this even before you’ve done your inspections. So, if you agree to these terms and find problems during the inspection period and choose not to move forward, you can kiss your deposit goodbye. If you are going to put down a non-refundable deposit, you need to make sure you have done your due diligence up front and are prepared to close.
Timing – Banks work on their own time tables. They will want shorter closing times and contingency periods. It’s not uncommon for banks to take weeks negotiating a contract only to require you to close in 30-45 days. If you buy a lot of properties through banks, you will have to get used to the hurry up and wait mentality. Meaning, they will want you to do everything on your end very fast, but they will take their time on their end. You are on their schedule. If you are going to buy properties from banks, it’s important to have your money and teams lined up ahead of time. You must be prepared to move quickly.
Buying REO investment properties from banks can be a great way to make money in real estate. You can find some great deals, but you must be prepared. If you can manage the tough negotiations and costly contracts, you can find great opportunities. You must be prepared to move fast, put down a larger deposit, have your lawyer ready to go, and move quickly to get the best deals. However, once you get the deal done, you can have a great asset for years to come. By then, you’ll forget how difficult it was to get the contract done.