2011 to Hit Foreclosure Record - Three Need-to-Knows for Foreclosure Buyers

A foreclosure sign - foreclosure buyersEconomists say the recession ended in mid-2009. Yeah, I know. But the American public has never really bought that line, especially when it comes to the real estate market. In fact, a December study showed that 58% of American adults actually think it will be 2012 or later before the housing sector truly begins to heal.

In this case, popular sentiment seems to back up the latest news from Realty Trac, a company that tracks foreclosure activity, which yesterday announced that more than 5 million Americans are now two months or more behind on their mortgage payments, setting the stage for a record high foreclosure rate this year. One million homes were repossessed by mortgage lenders in 2010, but 2011 is already on track for a projected 1.2 million foreclosures. "2011 is going to be the peak," said Rick Sharga, Realty Trac Senior Vice President.Several things the "recession-is-over" crew may not have fully accounted for, that may explain the spike in mortgage defaults and foreclosures:

  • The "walk-away" or "surrender to foreclosure" psychology of homeowners who are (a) upside down, and can't see their home's value recovering anytime soon, and/or (b) who have tried -- and failed -- to work with their bank on a loan modification or short sale;
  • The pent-up foreclosures that were set to happen last year, but didn't, because of the robo-signing foreclosure freezes imposed last September (most of which have since been lifted) -- banks will be repossessing many of these homes in the first quarter of this year;
  • The bulk of the problematic interest-only or negative amortization adjustable rate mortgages (ARMs) taken out at the peak of the market (circa 2005-2006) were fixed for five years, and just started to reset last year -- leaving many more homeowners stuck with increasing payments and upside down homes they can neither sell nor refinance this year than in any of the past few years.
To boot, mortgage lenders are flat-out telling homeowners they won't be seriously considered for a loan mod until they fall behind on their loans; as a result, lots of people perceive that the first step to getting help is to stop making payments on their loan. (Hint to lenders -- this probably doesn't help the delinquency rate much. Just a guess.)

So, what does this all mean? Well, more foreclosures means more affordability for buyers -- especially those buying in foreclosure hot spots like California's Central Valley, Florida, Arizona, Nevada, Michigan and Illinois. For homeowners, the news is a more grim foreclosure snowball effect.

Foreclosures cause values to fall and create a glut of homes on the market, making buyers hesitant to buy out of a fear that their new home's value will continue to fall. As a result, homeowners are stuck owing more than their homes are worth, and unable to sell or refinance them: prime conditions that motivate owners to walk away. The walk-aways result in more foreclosures, and the snowball rolls downhill from there.

For those intrepid buyers out there thinking of purchasing a foreclosure, here are three essential need-to-knows for buying an REO (real estate owned -- by the bank):

  1. Banks Are Exempt From Many Disclosure Requirements. It's especially essential to do your due diligence into the property condition via inspections and getting repair bids before the deal is finalized, as the bank may not know or be required to reveal any information about the property.
  2. Lenders Selling Foreclosed Homes Often Use Their Own Contracts. And their contracts may have terms that are very different from the standard practices in your area. For example, most foreclosure purchase contracts give the buyer a set objection period; if the buyer doesn't back out before then, their contingencies (legal ability to back out of the deal) are automatically removed and deposit rendered non-refundable. In many states, on a non-foreclosed home, the buyer has to proactively sign and submit a contingency removal to finalize the deal. Read every word of your contract, and have your broker or attorney advise you on the nitty gritty.
  3. Vacant Foreclosures Usually Have No Utility Services Connected. See #1 -- it's essential that you have everything about the home inspected, but without utility service that's nearly impossible. Work with your broker or agent to ensure that the utilities are on during your property inspections, so that you can know whether the water heater heats water, whether the water runs or dribbles out of the taps and whether the appliances (if any are in the home) actually work.
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