What's the difference between shortsales, foreclosures and REO's?
Posted at 8:00 AM, Feb. 9, 2008
There are many confusing terms out there today regarding "distressed properties". I'd like to take a moment to layout the different terms used in Real Estate such as Short Sale, Foreclosure, REO, etc. to help you understand what you are seeing. Many Realtors use some of these terms more for marketing purposes because the general public associates those certain words with good value. This is not always the case. Each home should be evaluated on a case by case basis.
What is a Short Sale?
A short sale occurs when a lender agrees to take less than the full loan payoff for an owner's property. In most cases, the owner is in default and is not making their payments for whatever reason.
Short sales, in most circumstances, are the first step to avoid foreclosure. Although the lender(s) will recover less than the total loan amount in a short sale, they may prefer this in lieu of foreclosure. The costs of foreclosing on a property may be more than the bank's loss by taking a short sale. Also, the property may not sell at auction and then the bank would be forced to take it back as an REO (Real Estate Owned) property, which then they would have to maintain, list and sell themselves.
Short sales are very complicated and the outcome is not guaranteed. There are so many variables that I can not even cover everything in a couple paragraphs. The bank (lender) is not obligated to take a short sale and in most cases the process to get one approved is cumbersome and frustrating for the Buyer, Seller and the Realtors. Many times these requests are not approved by the bank and the property ends up going to foreclosure anyway. Banks are overwhelmed with short sale requests and the approval process can take months. Each bank evaluates each individual request on a case by case basis. Many times there is more than one lender involved. Not only do the banks consider the borrower's personal and financial situation, but they also consider an appraisal of the property, market conditions, the banks financial situation, their current portfolio and in many cases have to consult with an outside investor who purchased the loan at some point. Given all of these varying circumstances, you can imagine why this process takes so long. Most buyers do not want to wait out this long process and deal with the uncertainty. If a short sale is approved, it can be below market (depending on the bank appraisal), but by the time it's approved the market may have further declined and it may not be a great deal after all.
If you are considering selling your home as a short sale, please consult with a CPA and an Attorney first! Realtors ARE NOT qualified to give you the type of information you need to decide if a short sale is right for you. Depending on the types of loan(s) you have and your financial situation, it may or may not be the best option for you.
What is a pre-Foreclosure?
A pre-foreclosure is basically a property prior to the Notice of Default (NOD) being filed. Basically the homeowners are in trouble and likely are in default of the loan. They may be trying to sell the home before it is taken through foreclosure. It's just a marketing term to attract attention to the property as being a "distressed sale". Realtors use this term to create interest in possibly purchasing a home below market value. This may or may not be the case. Further research needs to be done on each home to determine the value.
What is a Foreclosure?
Foreclosure is the process whereby the lender takes possession of the property.
When a home owner fails to make the payments on his/her mortgage, the lender can begin foreclosure proceedings. This is a very specific legal process with set timelines and outcomes. In a Short Sale situation, the home owner's name is still on title of the property and they are the official owners who are trying to sell the property. In a foreclosure, the lender takes possession of the house and as a result, the homeowner is no longer a party in the sale.
Foreclosures are NOT sold by Realtors. Foreclosure properties are auctioned at a Trustee Sale at the Court House in the County where the property resides. Foreclosure properties must be paid for in full, with a cashiers check at the time of the auction. Only seasoned investors should consider this option. When you purchase a home at a Trustee Sale, you could be at risk of various problems that are normally investigated by Realtors and Title Professionals in normal sales transactions. These problems are serious!!!! Problems such as: Title problems, Superior loan pay offs, IRS liens, tenants or owners still occupying the property, and/or structural problems. The price may seem good at auction (priced well below other houses in the neighborhood), but your costs and risks may come after you try to take title. Properties that are a good investment are purchased by seasoned investors who find a way to get them before anyone else. Unless you really know what you are doing, this is the most risky way to purchase property!
What is an REO?
REO is a abbreviation for Real Estate Owned properties.
If no one purchases the property at the Trustee Sale, then the home becomes an REO property, owned by the bank. The main reason homes don't sell in a Trustee Sale is because it doesn't work out to be a good investment for a potential real estate investor.
A home that has been "foreclosed" and has become a bank owned property can then be listed by a Realtor who is hired by the bank to market and sell the property. To sell the house as quickly as possible the lender will remove any liens on title, and clear any other issues that may slow down the sale of the property. Generally, lenders are very motivated to sell these properties, as they are in the business of lending money, not owning real estate. REO's tie up their capital reserves and hamper their ability to lend money. Also, the management of these properties can become very costly. This is the best opportunity to find a good deal.
Note: there are many homes out there for sale that are not distressed properties. The owners have a lot of equity, are motivated to sell and have priced their homes to move quickly. Distressed properties are not always the best way to find a great deal.
For more information or if you have any specific questions, please feel free to call or email me anytime.
Article originally published in CA. Laws and forclosure process may vary by State. Now in Cary, NC with The Bliss Real Estate Group.