How exactly are we helping the distressed seller?

Question

All,

Please help me get my head around a basic principle.

One of the basic points in buying for cash from distressed owners is the investor is somehow helping them. I'm trying to figure out exactly how.

For example: You find a house that has an ARV of $100K and the buyer has $80K of equity. He's late on his mortgage and the bank is threatening to foreclose on the $20K balance and he comes to you looking for help.

You determine that due to neglect, it isn't worth $100K because it needs $20K worth of repairs to get it to $100K. You offer him $56K for the house thus leaving him with $36K in equity/cash after paying off the mortgage.

However, if he just lets the bank foreclose and they eventually sell it to you for $56K, isn't the owner in the same position? The bank can't keep more than they are owed.

What am I missing? (I think I know, but I'd like to hear the explanation)

Thanks,

Craig

Jesse T. · Answer

In this scenario, the owner could be worse off with bank for a couple reasons.  FIrst is the fees/penalties involved in the foreclosure will decrease the net.  Secondly there is a significant chance that the winning bid in the foreclosure auction will be the bank's bid(which will be for the amount owed) - that means zero for the owner.  Or in an auction with just one bidder, it is just over the bank's bid.

Even if there are proceeds to the owner, they likely will be months down the road and smaller due to fees/penalties incurred.

Generally the owner will want to move on and start-over vs. maximizing the return from getting rid of their house.

Derrick R. · Answer

Interesting question.  But in your particular situation the bank would never lose money.  They've been profiting by collecting principal+interest for the life of the loan, and any fees assoc. with foreclosure will likely be recouped during auction.

The way in which we may help the seller depends on the situation. They may have resorted to the 'we buy houses' guy as a last resort.  So for them to be able to walk away with 36k cash and no mtg, at a time when they cant or may not be able to work to repay the bank is one benefit.

Some sellers are just opposed to letting the 'big bank' take back their home, for that reason they find us.

@Ned Carey mentioned the credit impact.

Disclaimer: I'm not yet an active investor but thats my pov.

Neomi Riley · Answer

Ned, I really appreciate your perspective on helping a distressed seller.  I was slightly unclear as to how that worked and now it makes a lot more sense to me.

Thanks so much for that!

Neomi

Ned Carey · Answer

I am not a white knight and do not pretend to be.  Wikipedia says

I do not operate in an unethical manner. I do sometimes make profits, sometimes very large profits, as a result of someones unfortunate situation. But I do not create that situation, nor do I make that situation worse.

I am not a profiteer which has a negative denotation. I prefer Vulture which has a negative connotation. But vultures are an important part of the life cycle.

I am a vulture. Vultures never kill anything, They just clean up what is already dead.  It is a dirty job but somebody has to do it.

Craig Shrimpton · Answer

While the homeowner is hosed either way, he is less hosed if he sells to you. However, you are profiting directly from his misfortune, whereas the bank is not if they are forced to foreclose. The bank almost always loses money on a foreclosure.

The other interesting side effect is you are also helping the bank by enabling them to avoid a foreclosure and saving them a potential loss due to fees, etc.. In fact, the greater benefit is to the bank as they get near full value on the original investment.

Are you a white knight then, or just a profiteer?

It's an interesting ethics question.

Ned Carey · Answer

First you are assuming that getting the most money is the best way to help a seller. How about the seller that feels "I don't want more money, I don't have the energy or mental strength to do the effort to get more money, I just want my problem to go away."

Have you ever had a problem that you knew could be resolved but you didn't have the energy or motivation to fix it? You just wanted the problem to go away.

In your specific example; the seller would otherwise have a foreclosure on his record. Something worth avoiding if you care about your credit.  Also assuming as you do the property would bring the same price at foreclosure the owner would not get the same amount of money because of the legal costs of the foreclosure and interest until the foreclosure happens is added to the debt.

PS: I don't pretend I am there to help the seller. I offer what makes sense for me. I leave it to the seller to decide what is in their best interest.