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Is Buying a House at Auction A Good Idea?

May 6, 2022 | Industry News

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I’m going to approach this a little backwards, because the answer is (a qualified) ‘yes’. So instead of starting off by telling you why it’s a good idea, I’m going to highlight some of the pitfalls and reasons it might not be. Then we can talk about the positives, once you have a better idea of the risks.

 

You May Not Know What You’re Getting

 

If a property has made it to auction, then the odds are good that the owner is having some sort of financial difficulty. If that’s true, then it’s easy to imagine that the property may not be up to date from a maintenance perspective. In some cases, there may be years of missing maintenance. Less explicably — but certainly true, as we all know from reading the papers — the owners may have completely trashed the property.

 

During a traditional property purchase, these sorts of risks are mitigated by the home inspection process; however, not all auctions allow for an inspection. In fact, not all auctions even allow you to enter the house — you may have to be satisfied with a drive by of the exterior.

 

Beyond the physical property, there may be external obligations attached. The property may be auctioned off by the primary lien holder (usually either the first mortgage or a tax agency), but that doesn’t mean there aren’t subordinate debts against the property. Everything from second mortgages to liens from contractors could be out there. You’ll need to work with the auction house and a title company to make sure you have a clean title in the event that you do win the auction.

 

Legal Issues

 

Above and beyond the property and any debts associated with it, you’ll need to deal with occupancy. Although it’s not terribly common, it certainly happens that properties are auctioned, and the owners are still occupying (or even that squatters have settled there). Rules for eviction vary dramatically from state to state, and to a lesser degree even from county to county. It’s entirely possible to get caught up in a lengthy and expensive eviction process.

 

Cash Requirements

 

When buying a property through traditional channels, you normally have financing set up in advance, and in today’s climate you probably only need to make a minimal down payment. In the case of auctions, that’s not the norm.

 

Each auction house has different rules — and even at the same auction house, the rules can vary by property. Typically, you’ll need to bring a cashiers check for the minimum bid, which usually amounts to the fee to the auction house plus an equivalent amount to the earnest money you’d put down in a traditional transaction. But there are no hard and fast rules, and the amount of cash you may need to bring can be substantially higher than what you’d need in a traditional sale.

 

You Might Not Win If You Win

 

Generally speaking, there are two kinds of auctions: lender-confirmation auctions and absolute auctions. An absolute auction is exactly what the name implies — the winning bid gets the property. These are the norm in tax lien situations. However, in bank foreclosures, you don’t always get an absolute auction. In a lender-confirmation the lender doesn’t have to accept your offer, even if you’re the highest bidder. Now, to be honest, in most cases they will. That said, a fairly common technique is to set a low minimum price, in order to encourage bidding, but to have a separate, minimum reserve price that is secret and must be met for the property to sell. This is far more likely than the bank making some arbitrary decision.

 

It can be very frustrating to go through the time and expense of doing title searches, getting cashier’s checks, getting home inspections (if allowed), winning the bid (maybe at a higher price than you really wanted), and then having the deal fall through. It can be a serious emotional blow.

 

It Still Might be A Good Idea

 

All of those risks notwithstanding, an auction is still one of the best ways to get a good deal on a property. You have to look at is from a risk/reward perspective. Buying a property the traditional way is the least risky, but also the least likely to generate immediate profit. As an in-between point on the risk/reward scale, buying a property from an owner who is in jeopardy of going into foreclosure is a great place to look. You can often negotiate with the banks, secure more traditional financing, and certainly go through the normal home inspection process. But when it comes to getting the truly great deal, auctions are the way to go. The lien holder (whether a bank or tax authority) is seriously motivated to get out. Not only are they not looking to make a profit, in many cases, they’re not even legally allowed to do so (any profit above outstanding debts would then go to the original homeowner).

 

My strong recommendation is this: if you’re serious about being a real estate investor, you need to be involved in the auction game; but you shouldn’t do so until you’re already an experienced investor. After you’ve bought a handful of properties on the market, you’ll have a very good idea of the costs associated with managing those purchases (whether it’s fixing them up to flip them, or turning them into rental properties). You’ll also have a much better understanding of the local market. Then, when you have a strong idea of what you’re doing, it’s time to go to an auction.

If you’d like to talk more about buying a house at auction, or if there’s something else we can help you with, please reach out. We’re always happy to help.

 
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