How Do You Invest in REO Properties?
Investing in real estate owned (REO) properties can be profitable for flippers and would-be landlords alike, but it's not without its fair share of challenges. Before venturing into REO territory, it's helpful to understand the ins and outs of how these properties work and what to expect as an investor. (For more, see Exploring Real Estate Investments.)
Real estate investing is not risk-free. Taking a gamble on an REO property can pay off big but it can also backfire if you're not able to find a buyer or a reliable renter. Taking the time to carefully research properties and the larger real estate market in your area is a must for ensuring the success of your investment.
Understanding Real Estate Owned (REO) Properties
A real estate owned property is one whose ownership has reverted to the bank or mortgage lender. If the borrower associated with a commercial or residential property defaults on the mortgage, the lender can pursue a foreclosure action to repossess the property.
- Real estate owned (REO) properties are properties for which ownership has reverted to a bank or mortgage lender.
- Investing in distressed real estate properties, investors can enjoy greater benefits in several key areas, such as cost, market value, and potential returns.
- A primary way to profit from REO investments is to renovate a distressed property, then sell it for more than the initial purchase price plus renovation costs.
- Lenders often sell REOs as-is, which can affect turn-around time if extensive repairs are needed.
The next step is to try to sell the property at auction. If the property fails to sell or if the lender is the highest bidder, the property is deemed real estate owned. The lender can then list it for sale.
Why Invest in REO Properties
Investing in real estate offers multiple advantages regarding the ability to diversify your portfolio and generate higher returns. With distressed properties, investors are in a position to enjoy even greater benefits in several key areas, such as cost, market value, and potential returns.
Buying a property that's bank-owned is not the same as buying a property from the owner but that's not necessarily a bad thing. One of the most important differences is the fact that the lender will typically take steps to clear any tax liens.
A primary way to realize a profit through REO investments is to renovate a distressed property, then sell it for more than the initial purchase price plus the amount you've invested in fixing it up.
Flipping properties can be risky if the house doesn't sell right away, but if done right, it's possible to net a sizable return. (For more on how to execute a flip successfully, see 5 Mistakes That Make House Flipping a Flop.)
Buying an REO Property
One thing that can kill the purchase of a bank-owned property faster than anything is getting the offer wrong. While these properties are often priced right at market value or slightly above, you don't want to make the mistake of going in too low.
Working with a real estate agent experienced in buying and selling REO properties can help you to formulate an offer that's agreeable to both sides.
Contingencies are usually negotiated once an offer is in place, and two of the most important ones center on the inspection and appraisal. Investors need to schedule an inspection to check for structural problems as well as a separate pest inspection.
A professional appraisal ensures that the property's value matches the amount the bank is willing to lend you to complete the deal. It's beneficial to have the inspection and appraisal done as soon as you can in case either results in an issue that must be resolved.
Beware of the Pitfalls
Bank-owned properties aren't without certain drawbacks. Lenders often sell REOs as-is, which can affect turn-around time if extensive repairs are needed.
Investors working on a limited budget may see their returns negatively impacted if they're required to spend more than they anticipated to get the property rental or resale ready.
REO properties can also be problematic if a problem with the title arises after the sale is complete. Investors would need to purchase a separate owner's title insurance policy in addition to a lender's policy to sidestep any problems; however, this would add to the cost of owning the property.