Foreclosures and the Moratorium

Stephon Martin

The Biden administration has extended the COVID-19 moratorium on foreclosures to July 31, 2021. Totally avoiding the policy and ideological discussions that could be had about such a decision, one thing is apparent—the additional month extension will increase the backlog of foreclosure and eviction cases that courts around the country will face once this moratorium has ended. Absent any legislative changes, the implementation of creative government programs mitigating distressed loans or both, foreclosure filings, executed foreclosure judgments and foreclosure-related evictions are all set to see an uptick over the next year.

An increase in residential foreclosures and evictions is certainly bad news for affected homeowners and tenants, who will have to find new living arrangements, undergo costly moves in short timeframes, uproot their lifestyles and, in some instances, face long term financial effects. Increasing foreclosures will also serve as a market correction in the real estate market, which is currently driven by inventory scarcity. Amidst the market change and its social implications, many real estate investors can be left wondering which strategy to employ. The answer is simple—any or all of them.

Considering the ill-effects that the foreclosure process has on the former owner and, in the case of residential foreclosures, the affected tenants, foreclosure investing is necessary to the revitalization of a local market. Foreclosed properties are typically vacant or minimally managed, as the former noteholder, now new owner, seeks to do the bare minimum to avoid municipal penalties and premises liability while collecting rents until the leases expire. In such a state, these properties will maintain some value at best, but more typically become a blight to the surrounding community. Distressed real estate investing is a way to ensure that properties affected by the upcoming foreclosure increase are rehabilitated and functional, while providing the benefits of forced appreciation for the investor.

It is important to remember that not every foreclosure filing will result in a foreclosure. Thankfully, most will result in payoffs, distressed sales, short sales, refinances or modifications. One thing is apparent, however, an increase in distressed real estate is looming. Here are some ways to participate:

Short sales: This highly regulated area of real estate is still a viable way to purchase real estate with latent appreciation. Technology and legal changes have largely protected banks from the lack of local market knowledge that created opportunities for many real estate investors. Despite these protections, a short sale is still a property being sold under pressure and typically shows signs of distress, which leads to lower sales prices and opportunities for increased value.

Auctions: Every completed foreclosure results in an auction. Auctions are used by foreclosing courts to ensure that the affected property is sold for value in the fairest way possible. There are a few articles on this blog that address the concerns around purchasing at a foreclosure auction, but once navigated, a foreclosure auction can be a viable way to purchase a distressed property for a significant discount.

Wholesales: Wholesales and foreclosures auctions go hand and hand. The vast majority of winning bidders at auction assign their contracts to other investors. A strong buyers list during the upcoming market will prove to be invaluable. So much so that attracting good buyers and performing investors should take precedent over finding new opportunities in this market. An executing buyer can lead to several closed deals in the future.

Distressed Note Purchases: There are a number of instances in which a foreclosing note can be purchased at a steep discount. Private noteholders and local lenders are frequently more open to such purchases than larger financial institutions or portfolio holders. Larger institutions tend to both service and hold notes. They are unable to sell the notes that they merely service and it is typically cost prohibitive to treat these note differently from their portfolio notes. Notes purchased in a portfolio also usually come with blanket legal covenants/restrictions that make them difficult to sell individually. Private note holders and local lenders tend not to sell their inventory in bulk and thus each note is less encumbered and can be bought at a steep discount. This is a win-win for both parties, as the seller gets to offload litigation and liability and a savvy purchaser is able to enter into a situation for which a creative solution may be workable.

Tax Liens: It may seem like this strategy was mentioned merely because its considered to be a distressed real estate strategy, but tax liens should always be explored whenever there is an increase in foreclosures. Property that is in a loan default is frequently in tax default as well. With a tax lien taking priority over a mortgage lien, tax liens can be a less expensive entry point into a defaulting property. Tax liens are filed for yearly obligations and a year of delinquent taxes are usually less than the outstanding balance required to satisfy a mortgage lien. Furthermore, bids for tax liens sometimes open at a discounted amount. Although most residential mortgage holders pay the property taxes for the properties on which they hold the lien, all do not and this practice is definitely less frequent with commercial mortgages.

If nothing else, this post should serve as either a reminder or motivator for any real estate professional that has not begun to prepare for the end of the moratorium to start doing so. A change is on the horizon and there are three courses that each professional can take—benefit from it, be affected by it or observe it.