Should You Buy a House at Auction?

Should You Buy a House at Auction? There are a number of risks, but you could end up with a good deal.

Looking to acquire a property? There are alternative ways to buy besides the traditional channels of searching real estate listings and working with real estate agents. You can also purchase a property at auction.

How Buying a House at Auction Works

The benefits of buying at auction include expanding your options and possibly purchasing at a discount. You may face less competition to buy an auction house compared with buying in the traditional way, but you will also be dealing with a different pool of potential buyers—often, experienced investors.

Perhaps the biggest risk of buying at auction is that you will have limited knowledge of the properties for sale, making an expensive misstep a real possibility. Also, as with any real estate purchase, you will need to read, understand, and sign lots of paperwork (ideally with the help of a real estate attorney).

Real-estate lore is rich with tales of homes bought at auction for well below market value, and such bargains do exist. However, auctions are typically a riskier way to acquire property than buying through the usual process. That reality makes it vitally important to be well educated as to how real estate auctions work and prudent about the properties you consider bidding on.

To help you avoid making a big mistake, here are the basics of residential property auctions, so you can decide if this option might work for you—whether you want to live in the property or use it purely as an investment.

How Homes End Up at an Auction

There are two common ways a home can end up being auctioned off.

Foreclosure Auctions

When a homeowner has not paid the mortgage for at least a few months, they may fall into default and end up in foreclosure. When this happens, the bank files a notice of default with the county recorder. If the homeowner does not pay the balance owed—or renegotiate the mortgage with the lender—the lender can put the home up for auction and force the homeowner out for nonpayment. These foreclosure auctions are held by bank-hired trustees.

Property Tax Default Auctions

Another way a home ends up on the auction block is when the owner does not pay the assessed property taxes. In these cases, it is the unpaid tax authority, rather than the bank, that seizes the property. The resulting tax lien auction is conducted by a local sheriff, clerk, or the county or local tax authority’s comptroller’s office.

Attending the Auction

Regardless of the auction type, these events may take place at physical locations such as local government courthouses and hotel conference rooms, and these in-person auctions are completed rapidly. Real estate auctions also increasingly take place online, where they may last for days or weeks.

Buying homes at auction has been and will continue to be popular, according to Earl White, co-founder of House Heroes LLC, a Florida real estate investment company that purchases houses, condos, and residential vacant land. “Owner-occupants on a budget and real estate professionals migrate to sources where there is less competition,” he says. “Naturally, auction properties generate fewer offers, resulting in a lower sale price. However, foreclosure auctions don’t provide the discounts that existed during the time of the [housing] crisis.”

White continues to explain that when fewer properties are available, buyers are highly motivated because of home appreciation and favorable mortgage rates. He says that online auctions have increased competition and driven up prices.

Finding Real Estate Auctions

One way to find auctions is by contacting local governments directly or visiting their websites for information and then following up by phone to confirm the details. Another is through sites such as RealtyTrac.com and Auction.com. However, online information is not always accurate.

Properties may be listed that are in pre-foreclosure, because the owner is behind on payments. These properties may never go up for sale because their owners catch up on payments or come to an arrangement with their lenders.

Local real estate agents and brokers can also be valuable resources. Unfortunately, you may not find them eager to help, because agents and brokers do not automatically earn commissions on live auctions. However, these realtors can earn commissions through online auctions.

Multiple Listing Service Data

Direct multiple listing service (MLS) reports are far more valuable to potential buyers than online listings, according to White, because they contain the full data for the listing, including photos and, most important, nonpublic broker comments. “Non-public comments are important because they specify critical information impacting sale price and days-on-market,” says White. This information can cover property defects, financing options, occupancy, and tenant leases.

While rules vary by location, MLS and county records are often only available to real estate licensees, according to White. In his experience, they are usually happy to help free of charge if you contact them.

White also notes that in-person auctions have been disappearing because even smaller counties have been moving them online. Miami and Palm Beach are two locations where both tax and foreclosure auctions are now fully online.

Keep in mind that foreclosure auctions are often postponed or canceled, even at the last minute. The lender might not have obtained all the paperwork it needs, or the borrower may have worked out a solution to avoid foreclosure.

What Bidders Need to Know

Before bidding at a real estate auction, you should understand the risk you are taking. A bad purchase could haunt you for years. You also need to understand the auction’s rules and be prepared to follow them before trying to participate.5

You will have to register and submit a refundable deposit of 5% to 10% of the property’s expected selling price to the entity holding the auction. If the auction is in person, be sure to check in at least an hour before the scheduled start and obtain an official card, which you will raise when you are ready to bid.

Winning a property at auction can work in two different ways.

• In a lender confirmation auction, the lender does not have to accept your offer, even if you are the highest bidder.
• In an absolute auction, the winning bid gets the property.

The starting price of the auction may be the balance owed on the mortgage or a lower amount designed to spur bidding. In a foreclosure auction, the lender is not allowed to profit from the auction. Often, these properties are sold at a loss; if there is a profit, it is supposed to go to the foreclosed homeowner after the mortgage and any other liens are paid. Auction properties are not always great deals—for example, the auctioneer could set a hidden reserve price on a property, which is the minimum that must be bid.

“Whether a buyer attends the auction in person or online, they must keep in mind that there is a threshold price for every property where a wise purchase can become a foolish purchase, and they must not allow the event, venue, or their emotions to sway their decision,” advises Ron Humes, a realtor since 2000 and current VP of operations for Post Modern Marketing in Lexington, Ky.

Accessing a Property

Auction properties rarely provide potential buyers with the same level of access as traditionally sold properties. You will most likely not be permitted to walk through the property with your agent at your convenience, although some auction companies do offer open houses.

“I personally would never recommend a client purchase a property remotely without first conducting the eyeball test,” says David Roberson, a real estate attorney and broker in San Jose, CA. He and his wife own 22 rental properties in three states, and he is the owner and operator of Silicon Valley Property Management Group. Either you or your trusted investment team should thoroughly evaluate both the real estate you are considering and the people you are dealing with before obligating yourself legally or financially.

Similarly, Humes cautions that sources reporting on the current or future value of a property can be inaccurate unless there has been an onsite evaluation by professionals who know how to gather and assess all the necessary details. The best way to gauge an auction property is to work with pros—real estate agents, appraisers, and contractors—who understand construction and remodeling costs and who can accurately assess the property’s current and future value and the cost of the work it needs.

Property Condition and Inspections

A house could have all kinds of problems—remember, it used to belong to someone who couldn’t afford the mortgage or the property taxes, so the owner probably could not afford any routine maintenance or repairs, either.5 Furthermore, once the loss of the home appeared inevitable, the owner may have intentionally neglected it or even seriously damaged it. Also, a vacant property may have been vandalized or occupied by squatters.

Assume that if the property looks terrible from the outside, it probably looks terrible on the inside. Auction properties are sold as is, and you will need to be able to afford any and all repairs. Tempting though it may be, you should not trespass to get a better idea of the property’s condition. You may have seen flippers on TV entering backyards, peering in or even climbing through windows, but doing so is illegal, and you definitely don’t want to disturb anyone occupying the home, not only out of courtesy but also for your safety. Seek information about the property’s ownership history from local government records, talk to local real estate agents, and respectfully request information from neighbors.

Auction properties often do not allow a home inspection or any legal way to view the interior in person. If you can’t afford the risk of buying a property in poor condition, stick with auctions that allow you to inspect the property before bidding. Without this information, it can be hard to know what you are getting into, what a property’s repair costs will be, and its true value until after you become the owner.

Even if you can get a home inspection, that still has its limits. Problems behind walls, in ceilings, and under floors might not be apparent until you take possession. If the utilities are turned off, you may not be able to detect leaks, electrical problems, broken appliances, or malfunctioning HVAC equipment.

Payment Options: Plan Ahead

Buying a property at auction usually requires a lot of cash. Each auction company and county government has its own requirements for payment, but you will probably need cash just to secure your right to bid. Down payment amounts and methods of purchasing often depend on the property and the auction house. More flexible financing options may be available by purchasing a bank-owned property the traditional way.

As for payment, bidders at an auction should bring cash, a money order, or a cashier’s check for the sum required by the auction holder. Typically, you will have to pay for the property in full immediately after winning the auction. Occasionally, you may have until the next day to complete payment. Failure to complete the payment may result in forfeiting your deposit and being banned from future auctions. Be prepared to provide proof of funds to show you can complete the purchase. If you are bidding as an entity, such as an LLC, a trust, or a limited partnership instead of as an individual, you may need to show your entity documents.

Winners go through escrow and closing just as they would with any other home purchase. Bidders at property auctions are often real estate investors who can afford to pay cash. For auctions that allow financed purchases, you’ll need to get prequalified ahead of time. Some auction houses prefer that you work with their affiliated lenders and will have those lenders on-site at the auction. However, do your research beforehand to determine the interest rates available from competing lenders. This information may give you some leverage.

Also, be sure that you understand the auction fees you will be expected to cover. “Homes purchased at auctions many times have costs and fees from auctioneers, banks, attorneys, and other companies required to bring the property to the auction,” says Humes. “It is not uncommon to find 10% auction fees, bank interest and penalties, attorney fees, 12% sale carrying fees, and property preparation fees that are passed on to the buyer.”

Check for Any Claims, Liens, and Occupants

Before you bid, you’ll want to hire a title search company to see who might hold liens against the property. As the owner, you will become responsible for any liens, which means more money out of your pocket.5

There may be other claims against the home—not just tax liens but also contractor liens or a second mortgage. Bidders should check with the auction company to ensure that the property has a clear title. If you do win an auction, you’ll want to buy title insurance during escrow or immediately after closing to protect yourself against any liens not uncovered during the title search.

In some cases, the (former) owner or a squatter will be occupying the property, and you will have to evict them—an often-lengthy process that can be unpleasant at best and expensive at worst. It could be more advantageous simply to offer them several thousand dollars upfront to move out and hand over the keys.

Refrain from doing anything until you hold the title. Avoid the urge to start renovations or move into the property immediately after getting your certificate of sale. You will still need to wait up to 10 days or so to receive your certificate of title. The property is not actually yours until you hold that certificate; the owner could still retain his or her right to the home by filing an objection to the sale with the court or by paying off the loan.

The Bottom Line

Foreclosed homes may be financially appealing, but there are many obstacles to consider before buying. Also, just because a home is for sale at auction does not mean that you’ll be able to get it at a good price (or that the home is a good deal at any price—it could be a money pit). However, for savvy, intelligent, and motivated individuals, property auctions are worth exploring as a way to pick up a home or an investment property inexpensively.

That being said, consider properties not sold at auction as an alternative. “It can be possible to find a better deal when negotiating with a seller who has equity in a property and can negotiate on their own behalf without all of the auction’s affiliated penalties and fees,” Humes advises. “You may also have more competition at auctions from companies that purchase properties to flip as a business model. Auctioned homes are not always the best deal for the average home buyer.”

If you are interested in trying to pick up a bargain property at an auction, there is a lot to learn. Auctions are a riskier way to purchase a property than through a real estate agent. It’s important to be extremely well educated about the process and the properties on which you are interested in bidding. Working with a local real estate agent or broker to identify potential properties may help, although they may not be interested unless you can reach a compensation agreement.

Finally, make sure to thoroughly review all the auction rules and conduct due diligence on the property before you bid. Seek the counsel of a real estate attorney—ideally one experienced with foreclosure sales—to make sure you understand what your responsibilities and liabilities will be if you are the winning bidder.

Source: investopedia.com

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