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Asked by Josh, Coraopolis, PA Sun May 18, 2008

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Jeffrey Benn…, Agent, Pittsburgh, PA
Mon May 19, 2008
Unless you have the relevant home improvement skills (plus cash and time!), foreclosures probably aren't the way to start out. With the housing and credit crises in full swing (thankfully much less so in Pittsburgh), you can't turn on the radio anymore without hearing ads about how to make a mint buying foreclosures. Many new homeowners hear these ads and feel they're "missing out" somehow, or cheating themselves by "paying retail."

The truth is, it's like any other business -- it takes time and experience to become successful. Foreclosed homes in good condition will quickly bid up to the same price level as non-foreclosures (and they may be in good condition because of $50,000 in unpaid -- and perhaps unfiled --mechanics liens). Most of them have been vacant for months, often unwinterized, and are in poor shape.

Buying *listed* REO properties (i.e., bank-owned) is easier than trying to buy at a Sheriff's sale or auction. With the latter, sometimes you don't even have access to the property until the day of the sale, and you'll typically need the full purchase price in cash within 48 hours. If you have to finance, it's nearly impossible to get a bank to do a loan under those conditions. There are people who do this for a living (you'd be competing against them), and they're often partnerships with piles of cash.

I have quite a bit of experience with these (REOs), and I'll tell you how they fail -- 1) people trying to finance properties < $40K. You basically can't do it anymore. There are regulatory caps on interest rates (to avoid "predatory lending" charges), but the profit margin on small loans is so tight they'd have to charge you higher than the limit to make it financially viable for the bank. Result: no loan. If you want to buy lower-end properties, you need cash (or unsecured credit at much higher interest rates).

2) The appraisal catch-22. You're trying to buy a higher-priced foreclosure and want to get a mortgage. The mortgage requires an appraisal, and the appraisal requires the utilities to be on. But the utilities are off, and the bank won't turn them on (e.g., the property wasn't winterized and they're afraid the pipes will burst and leak everywhere, damagnig the home. Or, the house was vandalized, the plumbing stolen, and they'd have to do significant work to even be able to turn on the water). The bank won't sell unless it's fixed, but they won't fix it. You're willing to fix it, but can't until you own it. Catch-22: no sale!

3) HUD hell. These are repossessions or homes purchased/taken over by HUD, and they *may* be in better condition than general bank REOs. However, you have to jump through the many hoops of HUD. These can go smoothly if you're lucky. If you have a high tolerance for bureaucracy and are patient enough to wait, these can be reasonably good deals.

The duplex option sounds better, but there are pitfalls here as well. First, you'll have a second job as a landlord. If you have good tenants and the house holds up, this can be a breeze. It can also be a nightmare, of course :-) You're bound by Fair Housing laws, the '51 Landlord and Tenant Act, and need to know many details to do this right (e.g., there are many rules about how to handle security deposits). Then there is the lease itself: late payment, exit clauses, pet policies, term, maintenance agreements, etc. Are the utilities separated?

A second consideration is what your cash flow will actually be. People tend to think fairly simplistically about this: e.g., "the tenants pay the mortgage" In fact, it's a rental, so you can only charge the market rate for rentals. If people could pay the full mortgage and other costs, they would probably buy a house instead of renting :-)

Remember, you're paying all the taxes (and probably all the utilities, unless they're already separated). You're also paying mortgage interest. If you can make a significant down payment, so that your financing costs are low enough, you can indeed have a positive cash flow and a great investment. You just need to calculate it carefully; it will likely take a higher down payment than you expect to be consistently in the black. (You should also budget some for maintenance expenses, and inevitable vacancy/advertising costs.)

I'll also throw out that sometimes 3- or 4- plexes have a better cash flow. You're already a landlord with one; having 2 or 3 tenants won't triple your workload. Often they're not significantly more expensive than duplex properties.

I hope I haven't discouraged you! Real estate is a great investment, and your best chance of building long-term, stable wealth. It's a business, and it takes hard work and persistence, just like any other. It's prudent to gain experience first, before building your empire; a duplex is a very manageable way to start.

Good luck!
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Crystal Alfo…, Agent, Pittsburgh, PA
Sun May 18, 2008
Either is a smart investment, but very different. With a foreclosure, you will have to buy the property AS-IS, no ifs ands or buts. You may have to pay more closing costs because some banks will not pay certain customary closing costs, so the buyer has to pay them. Also, most foreclosures that are priced well below market value are in deplorable condition, so you will need a good contractor or expereience in that sort of work, and the money to do the work. If you have it, you can make a great investment!
A duplex is a nice investment because you can pay your mortgage while you collect rent from the other unit. Then, if and when you move on, you can collect rent on both units!
There is a lot more to both...but that's my "short" answer...
Find a good Realtor you can be comfrotable with, so that they can help you through the process and help crunch the numbers!
Best of Luck!
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