Pre-Foreclosures: You have 3 shots

First off, let me clear up one thing that continues to confuse the masses…

There is a difference between “Pre-Foreclosure” and “Foreclosure.”

I am sure all of you have seen the advertising on various sites. “See a list of foreclosures in your area!” Over 90% of the time, they are technically a foreclosure but really they are what are known as an “R.E.O.” or Real Estate Owned. What that means is that a particular property has gone through the legal process of a lender foreclosing on a property. If a property does not get purchased by a 3rd party investor at the foreclosure auction, the lender becomes the new owner. If the loan was not FHA or VA, the property goes to the R.E.O. department of the lender that foreclosed. The majority of those properties are then listed on MLS by a Realtor that has been retained by the lender.

THAT…Is what most of those advertisements are talking about when they offer lists of foreclosure properties.

A “Pre-Foreclosure” is a property that is still legally owned by the individual(s) that the mortgage was given to. The pre-foreclosure market is one of the more difficult areas of investment real estate to get into and succeed with.

The “3 shots” I refer to in the title are actually chances that an investor has to obtain ownership of the property before it becomes an REO.

How many of you reading this has always thought that the only way to obtain a pre-foreclosure was to pay cash at the auction? That is one of the three ways. It is also the most dangerous of the three. Why? Because in this scenario, the winning bidder is required to pay the balance right then & there… With Cash (please check the laws of the state you are interested in bidding at to make sure of the procedure as all states have similar but different methods). Not literally cash mind you but certified funds.

Most people who buy at the auction have not had the opportunity to see the inside of the house. They are playing a game of Hit or Miss with themselves. If an investor pays more than $0.70 on the dollar at the auction, two out of three will end up losing money.

Why don’t we ever hear about those people? That is easy to answer. Because when an investor loses money after buying at the auction, they generally don’t show up to bid on another. Bidding and buying houses at the foreclosure auctions is not what I would call entry level investing. It takes skill, savvy, lots of cash and more times than not…Luck.

Buying at the auction is to me, the last ditch effort to obtain a house that is in pre-foreclosure.

The other two shots an investor has at buying a pre-foreclosure is going directly to the owner of the house and asking if they are interested in selling. The strategies and methods one can use to do that is the subject of one of my four-hour classes. In other words, there is a lot involved in how to contact an owner of a pre-foreclosure. It is a difficult task and unfortunately most investors approach them with a business attitude when really they need to be approached more from a personal standpoint. Think about it. Yes, real estate investing is a business about buying and selling distressed real estate. But who is it that lives in these houses? It’s people. In my opinion, when it gets right down to it, this is a business about people. People…Who are attached to their homes.

Wait! You can’t tell me that EVERYONE is attached to their home or that everyone is emotional about their home. That is correct, I can’t. This leads me to the 3rd shot at obtaining a pre-foreclosure.

The 3rd shot or, method I am talking about is one market that is largely forgotten by most investors or not even known about. That would be the “Abandoned Pre-Foreclosure.” It is also the subject of one of my other classes that I wrote and teach. “How to Find Abandoned and Distressed Properties.”

The entire Country is buzzing because of the record number of foreclosures. Most of the public and even most of the real estate investors don’t know that approximately 15% of ALL pre-foreclosures are actually abandoned! To put it into simple terms, out of every 100 houses that are in pre-foreclosure, 15 of them are abandoned. That is an incredible statistic. (Source: Foreclosure Listing Service, Inc. Addison, Texas)

Why is this a great market to pursue? There are a few reasons.

1. It takes the personal or emotional element out of the equation. When someone leaves their home, it becomes just a house to them. There is a huge difference between a home and a house to someone living in it.
2. Once the owner of the abandoned house is located, they are generally very easy to deal with. These owners can be approached with a business mindset versus a personal one.
3. They have left! What do they expect? The point I am making here is when an owner has left, they know the house will be foreclosed sooner or later. When I reach one of these owners, it is rare that I have to compensate them with more than $500. That is $500 more than they were going to get if the house went to the auction and back to the lender. Besides, if I buy the house directly from them, it prevents a foreclosure from being added to their credit report AND it shows as a paid mortgage. That is an attractive proposition to an owner no matter what. At the same time, it is always better to buy directly from the owner than have to roll the dice bidding against others at the auction.
4. A lot of the times you are able to see the inside so if you can’t locate the owner, now you can go to the auction knowing more facts than anyone else bidding. You will know exactly what repairs are needed and are able to attend the auction with a realistic budget for all the repairs, etc. Knowledge is power.
5. No Eviction! In some states it can take months to legally evict a tenant. What scares me even more is any tenant can cause thousands and thousands of dollars of damage in minutes. I don’t understand the mentality of a person that destroys property because they are being kicked out. But it does happen. So obviously when you buy an abandoned house either from the owner or at the auction, there is no eviction. That opens up a lot more opportunity for deciding what to do with the property. Keep it and rehab it? Flip it as a wholesaler? Etc.

There are more advantages than the five listed but those are the main ones.

To recap the 3 shots at buying a pre-foreclosure:

1. Obtain a pre-foreclosure list and contact the owner(s) directly. The best bet is to buy the house from the owner versus having to bid on the house at the auction.
2. Pursue the abandoned pre-foreclosures. They represent the best chance at buying a pre-foreclosure. If you can’t locate the owner, then over 90% of the time those properties will go to the auction. Just because a house is posted for foreclosure, does not mean it will reach the auction. The homeowner can reinstate the loan, they can file bankruptcy, they can sell the house, etc.
3. Bid and buy at the auction. Only now the investors that have also done 1 & 2 stand a much better chance of landing a good deal at the auction because they are simply more educated on both the property and the people that own it.

Disclaimer: As stated in the article, every state has different laws concerning foreclosure. I am not an attorney nor do I condone anyone pursuing any foreclosure property based upon the information provided. The methods listed are ones that I have personal experience with in the state of Texas. Please consult an attorney with specific knowledge in the state you are interested in pursuing a foreclosure property.

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.