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My family is considering buying a foreclosure property (HUD owned) for investment purposes. It looks like a good deal but we are not aware of what to look out for. Does anyone have any tips or experiences to share?
Our real estate agent seems to never have done this before (Understandable. Who knew Austin would have so many foreclosures). So any help is appreciated! Thanks!
I think there are good deals to have with foreclosures, but one need to be very careful. We viewed one foreclosure house, and saw mold on several walls in the house (the lower half of the walls were totally covered with black mold). After a month or so, seeing the house still on the market, we went to look at it again prior to making an offer. To our surprise, there was no obvious mold in sight. Someone had painted over the mold! We asked our realtor whether that was legal for them to cover up the mold; she said it probably was, since there was still a sign on the window disclosing that there was mold in the house. But if buyers do not read it, they can be easily fooled.
Forgot to mention, we got our builder looked at the foreclosure house. He said the all the molded walls needed to be gutted, the duct work needed to be re-done, plus some serious bleach treatment of the wood pieces. That would have cost at least $30k (if they didn't find more problems during repair process) and made the listing price not a bargain at all.
And some of the people foreclosed do some very bad things to their houses
I lived in South California until a couple of years ago
Many destroyed the inside of their homes, jammed stuff in the plumbing.
Knocked aquariums over on the carpet, wall damage ....
Some looked good til you got out there ...
"as-is" with a house is turn off to me
Unless you Really like the house, sometimes to get it up to snuff
costs more than something comparable, without the "as-is"
My family is considering buying a foreclosure property (HUD owned) for investment purposes. It looks like a good deal but we are not aware of what to look out for. Does anyone have any tips or experiences to share?
Our real estate agent seems to never have done this before (Understandable. Who knew Austin would have so many foreclosures). So any help is appreciated! Thanks!
There is no special knowledge needed to evaluate a foreclosed home. You hire an inspector just like any other and, if it's not in move-in ready condition, have to make sure that you accurately compute the costs to bring it up to par with a "normal" house in the area.
You do approach it with a different level of caution though, and a different set of expectations about potential problems. You assume there are unknowns and surprises, just like any other home.
Procedurally, again, not much different except you don't get fast answers from the seller (bank) like you do with a normal sale, things take longer, there is often more paperwork and addenda that favor the bank, and the inspection/repair process is somewhat different. If you agent can simply have a more experienced agent to double-check with or help with the deal, it should be ok.
Foreclosures in Austin are not super great bargains though. I can obtain better deals from motivated sellers who are not in distress than I can on most of the foreclosures I see. Many/most are priced at or even above market value once you factor in repairs, hassle and uncertainty. Occasionally we'll find a good deal, but I think it's imprudent of a savvy investor to only consider foreclosures to the exclusion of regular inventory.
My family is considering buying a foreclosure property (HUD owned) for investment purposes. It looks like a good deal but we are not aware of what to look out for. Does anyone have any tips or experiences to share?
Our real estate agent seems to never have done this before (Understandable. Who knew Austin would have so many foreclosures). So any help is appreciated! Thanks!
AM, I'd definitely use the search function on this Austin forum for words like "Austin" "rental" "investment" to get a general sense of what others thing about investing in rentals. That might not give you info about foreclosures specifically, but the general rule of thumb is that investing in single family homes as rentals is not so great of an idea in this country, but that goes double for the state of Texas. Renting out multi-family units is hard enough, but with a single family home you'll be looking at extremely high property taxes in Texas, plus very high insurance (unregulated industry) per renter for that home, plus the low population density means lots of opportunity for new construction which gives us low home appreciation, plus whatever maintenance costs. That's a strong headwind to overcome. Add to that the fact that rentals require more money down plus usually carry higher interest rates and they probably aren't the good investment most people thought.
You may get to buy lower with a foreclosure, but that just takes you up to even with other investments when you consider the extraordinarily high transaction costs of selling a home (people talk about how they paid $100k for a home and now it's worth $155k...but it isn't really worth $155k when it costs you $20,000 to sell it). On top of all the things I mentioned, consider the money you'll have to put in for the months you are vacant, plus the clean up and "make ready" each time you get a new renter. On top of all of this, are you going to find, research, and evict renters yourself? Are the renters going to have your number for when the toilet starts leaking water at 2am? If not, you'll need a management company which will charge a hefty fee, taking even more money out. And then you'll need a maintenance man on call so that he's the one going out at 2 AM to fix the leaky whatever instead of you (and he sends you the bill, not them).
I don't know you or your situation so please don't consider this anything personal, I'm just saying that, in general, I think people assume they'll put some money down, have renters pay off the mortgage for them, then cash out in 30 years or live off of a free annuity that other people paid for, and owning rentals in Texas just isn't that way.
By contrast you can put that money into index funds and generally do better than real estate while being safer and doing much less work. Especially if you put some money into things like an energy index fund or a healthcare index fund, or a China/Brazil index fund. You tend to get outsized returns and if they're in the myriad of tax free accounts available (Roth IRA, 401(k), 529 college plans for the youngsters) you make that much more money, and all without the headache and work and stress. Just don't check the balance every single day like you don't get an appraisal on your house every single day.
By contrast you can put that money into index funds and generally do better than real estate
Well, not to veer off into the pros and cons of real estate investing vesus stock investing, but a blanket statement such as the one above cannot be made either way about either investment option.
From 2000-2010, the real estate I own in Austin appreciated in value and added to my net worth. My mutual fund retirement accounts were break even, just treading water for an entire decade.
I personally know real estate investors in Austin who have done extremely well compared to what the same investment would have achieved in index funds. And I know some investors who lost money over the same period of time because they didn't know what they were doing.
My personal opinion as someone who has been working with real estate investors for 20+ years in Austin, owns rental property, and manages investment property for others, it's not something most people should be doing. It's extremely risky and should only be done with excess funds after paying all consumer debts other then mortgage and fully funding all employer-matched retirement funds. That's a pretty conservative financial profile, but such a person would make a solid real estate investor and be able to weather the ups and downs of the real estate cycles that Texas produces.
At present, this is an extremely good time to purchase investment property in Texas. Rents are starting to rise very quickly and values are as low as they will ever be. I know that sounds like some kind of rosy Realtor pitch, but it's not. It's based on market data and extremely low current interest rates.
Wouldn't 100 year record low rates portend bad things for prices in the future? Wouldn't interest rates have to rise from their record lows at some point, which would put downward pressure on the future prices of homes?
In order to show that real estate beats stocks, once would have to cherry pick an anomaly such as the specific time period of 2001-2011, which started with the dot com bust and ended with the credit crises, and was also met with the largest run up in real estate in many generations.
Also to compare returns, one would have to factor in the gigantic transaction costs of both buy and selling that home that others would have to pay who are not realtors, and finally you'd have to subtract 120 property tax payments, 120 insurance payments, and all the maintenance costs.
Over the course of one's life, real estate as a whole just keeps up with inflation, so to the average Joe it looks like it is a gain, but it is not. Of course certain areas can outperform as real estate is very local, and Austin seems promising, but with the drag on fees, taxes, and maintenance, an index would trounce real estate. I suspect if Person A picked 5 houses in Austin to buy in 1980 and Person B spent the equivalent of the money down plus taxes and fees on just the S&P 500, Person B would be much wealthier, and without near the work or stress or BS.
That's not to say one should never invest in real estate. It could be something one enjoys, forces one to save, and provides the opportunity for sweat equity. I'd personally love to own one of those whacky $99,000 homes still left on the east side by the Holly Plant as a hobby. But just know that you're giving yourself a second job, and you can likely make more money with less work by throwing money into an index fund every year until retirement. That said, you probably won't lose money in your foreclosure rental and would likely be happy with your investment 30 years from now.
I personally know real estate investors in Austin who have done extremely well compared to what the same investment would have achieved in index funds. And I know some investors who lost money over the same period of time because they didn't know what they were doing.
Steve
Steve, I understand if you can't share, but if you noticed any sort of trend from those who have been very successfully in investing in Austin RE, I'd love to hear what it is they do that works. I love discussing this sort of thing and am always up for learning more, and I'm inexperienced with RE investing. Are they in single family homes or condos or multi-family, or...? I remember visiting a girl one time in high school who had a very, very, very nice house. I asked her what her dad does and she said he owns an 8-unit apartment building. That's all I know about it, but at the time I thought that sounded like an awesome life.
I suspect if Person A picked 5 houses in Austin to buy in 1980 and Person B spent the equivalent of the money down plus taxes and fees on just the S&P 500, Person B would be much wealthier, and without near the work or stress or BS.
Let's see what the data has to say about that.
Real Estate Investor 1980
Average home price in Austin in 1980 was $66K
Average home price in Austin today is $240K.
Assume rental rate of 0.8% of value each year (though it was 1%+ of value until around 2002, but let's use the lesser number of today's ratio) and you'd have positive cash flow all the way through on a 30 year loan, but let's just assume break even to keep it simple, and say the homes just paid the carrying costs and produced no income.
Assume purchase price of 5 homes is $66,000 * 5 = $330,000.
Assume 20% downpayment of $66,000.
Today, investor owns 5 homes worth $240K each, total value $1.2M and those homes produce a gross monthly rental income of $9,600/mo, which is $115,200 per year.
Subtract from the $115,200 annual income the following:
$11,520 vacancy loss of 10% gross rent
$11,520 repairs and maintenance of 10%
$27,600 property taxes (2.3% of value annually)
$6,000 property insurance (0.5% of value annually)
The remaining net cash flow is $58,560/yr income for the investor/owner, which is not subject to any payroll taxes. Rental income is the most tax favorable type of income, according to my accountant.
If we assume the historic Texas average of 4.5% appreciation in real estate, the owner of these homes would also have an increased net worth of $54,000 in appreciation on his personal wealth ledger sheet. Of course that's not true this particular year 2011, but over time, 4.5% is in fact the average appreciation rate according to the Real Estate Center at Texas A&M and that's what a buy and hold investor can expect.
We find that the same $66K invested on Jan 1, 1980 would have grown an inflation adjusted total return (over the entire 30 years) of 9.91%, meaning $1 grew to $9.91 over that period of time, resulting in a value today of $654,060.
So the 1980 real estate investor who invested $66,000 to purchase 5 Austin rental houses now owns assets worth $1.2M that produce net annual income of $58,500, or 4.875% of the equity value annually.
The 1980 S&P 500 index investor investing the same $66,000 into the S&P 500 index today has a stock portfolio worth $654,060, and no monthly income.
This is a 30 year time frame, covering multiple periods of inflation, real estate bubbles and busts, etc.
Also, this analysis ignores the income tax benefits of owning rental property and we assumed no postive cash flow in the example, when in fact there would have been and it could have been used to pay down the loans quicker, generating income for more years leading up to the present.
I get frustrated when people throw out "stocks are better than real estate investing" as a generalization but can't back it up with actual data. Anecdotal examples aside, an average real estate investor, in it for the long haul, will build wealth faster than an average stock investor. The data proves it.
If I'm missing something, point it out.
Steve
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