include or exclude foreclosures in comps? - Posted by Ashley

Real Estate Investing Real Estate Financing
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Posted by Suz on October 11, 2009 at 08:57:10:

I’m not fully licensed yet, but I have worked on numerous residential and commercial appraisals (about 1,500 hours) My understanding is that the use of foreclosures would not be allowed as comps in a residential appraisal. They would be considered more of a “duress” sale and not a true reflexion of the market rate of the property. If you consider a foreclosure that gets to the courthouse steps there are a lot of issues that would prohibit a “normal” buyer from being able to purchase the property:

  1. Not being able to adequately see the property
  2. Not being able to have inspections
  3. Lack of financing possibilities and need for excessive cash at the steps.

I’m sure there are a lot of other issues, but all of these could drive down the final sale price, not necessarily the value, but the sale price. Someone also mentioned in an earlier post the poorly marketed bank sale, that doesn’t reflect market value, the guy just got lucky.

What I would do, if I were doing an appraisal of a home in an area with close foreclosure sales, I would include a presentation in the addendum or somewhere in the body of the appraisal. It is what is happening in the neighborhood and the client has a right to see that and know what is going on.

The use of REOs could probably get a little sticky because many of them are MLS listed now. If an appraiser isn’t careful, they could easily include an REO and note that it is one. I’m not sure of the rules of including an MLS listed REO in an appraisal, if I talked to the listing agent and found out that was what it was, I would probably try to avoid using it unless I could find a way to make an adjustment.

Hope this helps guys. Love the forum! I’m working on building my own portfolio.

Suz

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include or exclude foreclosures in comps? - Posted by Ashley

Posted by Ashley on October 03, 2009 at 19:57:45:

What’s your take on whether to include recent foreclosure sales prices when pulling neighborhood comps? An agent told me I have to ignore recent foreclosures when pulling comps to work up a house’s value. If I do that, it pushes comparable properties so far away from where the target property is located that I think it artificially inflates the value. The neighborhood is dicey and values are considerably higher and more stable on the other end. Sales flyers say things like “Nearby homes sell for $300K” or “In 2007 this home sold for $170K!” (that’s my favorite, BTW…) Not around this block they didn’t! SFH on the surrounding 4 square blocks average under $85K, and if you strip out the highball and lowball sales, you get an average value of $58K. The houses are all similar styles, ages, finished sq ft, # BR.

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Its not an Appraisal - Posted by Chi Ming

Posted by Chi Ming on October 05, 2009 at 23:42:58:

The appraisal standards require excluding the non arms length transactions (tax sales, foreclosures, estate sales and so on). But in calculating what you’re willing to pay, definitely include all those foreclosures. For an investor, those are still competition.

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Re: include or exclude foreclosures in comps? - Posted by Frank Chin

Posted by Frank Chin on October 05, 2009 at 06:31:23:

Ashley:

Buyers like us can look, and take foreclsure sales prices into consideration, even though everryone else ignores it. There is nothing wrong with this state of affairs.

I was active in the last RE crash, bought a few at foreclosure auctions, including my own home. I learned really quick that the local tax agent does not count foreclosure prices in their tax evaluations, neither does the local RE agents either.

There’s some good or bad in it, and after you bought your foreclosure, it’s mostly on the good.

First, I bought my home, FMV of $300K, at around $210K. OK, I try to protest my taxes, but I’m told, too bad, we don’t count foreclosure auction prices.

But, if I run down to the bank later on, depending on how strict their lending and seasoning policies are, as far as they’re concerned, the house’s worth is based on comps, $300K, not the $210K that I paid for it.

I was investing in western MA, bought some condos at $40K whereas some years back, they were selling at $125K. Anyway, they were asking for around $65K to $75K, and I complained to them that I can pick them up at auctions or REO’s for around $40K. The answer I got was, OK, go to auctions and REO’s then.

Around that time, through a fluke, a condo came up for auction at the complex where I bought one for less than $40K (they were $125K when first offered) and sold for $15K.

How did that happen?? Some bank decided to do their own auction, tried advertising it, did a very poor job of it, and the only people who showed up at the auction was the guy who got his condo foreclosed ( he paid $85K for it), and his twin brother, plus a few neighbors who happened by wondering what the commotion was . His twin brother thought quickly, had $15K in credit lines on his credit cards, bid $15K on it, and because it was an absolute auction, nabbed the place.

Well, the HOA howled in protest that it’ll ruin values. The reply was, yes, there are flukes at auctions, and the prices don’t count anyway.

No, I wouldn’t want values in the area to crater because of poorly advertised auctions, would you??

Coming back to the house I lived in. Comps in my neighborhood stayed at $300K for a year or two after I bought it, and then trended up. A year after I bought my place at $210K, some guy buying a house down the street rang my doorbell, explained he offered $325K, the comps in that area, and asked if it sounded right. I responded that, yes, that what the prices had been for several years.

Imagine if comps included what I paid for my place. It’ll take another ten years for the prices to correct.

So, if auctions prices were counted in the comps, prices would have cratered.

Having gone through it, and owning auction bought properties, I actually found agents, and appraisers, not counting foreclosure prices, on the balance, to be a good thing for me.

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Confession (long) - Posted by Ashley

Posted by Ashley on October 04, 2009 at 15:09:07:

ok, so I have to make a confession. This is such a hot button issue for me! Now it’s personal.

My decision to wholesale came about at the same time as my best friend’s decision to buy her first house. Up till now we’ve been having fun looking at property from our investor vs. owner-occ viewpoints. That fun came to a screeching halt when she saw this property. Oy vay. Those comps I mentioned in my first post? They’re for a house she’s desperate to buy.

She’s convinced if she doesn’t buy right now using the 1st time homebuyers credit, she’ll never be able to buy a home. She absolutely can’t see buying outside of the traditional agent-led sales process. There’s plenty of older buyers ready to let go of their family-sized homes - lease option? assumable mortgage?

Anyway, the listing agent promoted the home as “sold in 2007 for $170K”, so my friend thought it was a fabulous bargain at $124K. Never mind it sold six months ago for $48K. Anyway, the house is in good condition and my friend’s gotten emotionally attached to the glass doorknobs throughout. (She used to rent in older houses and loves that feature-can’t stop sighing about it).

Now as a new wholesaler, I’ve been diligently driving up and down every street I can then comparing listing prices against recent sales on the city website. The street in question is several blocks into a dicey area. In fact, I decided I wouldn’t mass mail there because I don’t feel safe enough to leave my car alone at the curb long enough to negotiate a contract. (Not to mention an agent got mugged putting up her signs nearby.)

Being the good friend I am, and needing more practice valuing property, I ran comps. (Okay, all you girlfriends out there know I mean “I stuck my nose right in the middle of her business, oh yes I did.”) All I have is the city website, no access yet to MLS, not sure how to asses interior condition. Based on sq ft, style, year built, lot size, # BR, heating/cooling/basement/attic/flooring/roofing, ya da ya da, and a range of about 4 square city blocks, the value including foreclosure sales came in about $50K. The value went up to $80K when I moved further out into more stable areas and included much higher sales prices.

My friend’s agent came back with comps pulled on houses from farther away, and instructed her she can’t consider the effect of foreclosures on value. “That’s not the way it’s done.” She’s made an offer but won’t say how much - she says I’ll make “that face” if we talk about it. She’ll only say that based on comps, it’s below the asking price and she’s comfortable with it. Translation - I’m paying way more than you would and my glass door knobs are worth every penny.

Understand that she’s planning on this being her residence for the next 15 years or so, then using money from the sale to fund moving into a senior community. I am very very worried that even given a strong market turnaround, her house won’t look like a good buy against the previously foreclosed homes, now all prettied up and selling for $100K. Who would pay offer her $110-115K when they could buy a comparable home for $100K? Then she’s lost money, has trouble financing the senior facility… it’s just driving me nuts.

Two other things are bugging me. No wait, three! (1) Buy the best house on the worst block? nonsense! (2) Bad decision under time pressure. Did I mention it’s 100% financed? Yeah. I have an issue with the folks who took on more house than they could afford and are now in foreclosure. No friend of mine would fall for that, right?? Reminds me of how stunned I was when we first talked politics - then agreed never to do that again. (3) Last… I really want my comps to be accurate, dang it! I’m spending a lot of time and effort learning to do this right, so my buyers can count on me and I can count on repeat buyers. I stand in front of that house, hands on hips, foot tapping away, with “that look” just a poutin’ and a grumblin’ away. So yeah, once again it’s all about me. I am SUCH a Leo.

Thanks for letting me vent, and for the feedback about whether or not to include foreclosure sales prices in my comps. I have a lot more to learn. So far things have seemed very factual and black and white, very step by step. The more I venture away from books into the real RE investing world, the more I see there are plenty of shades of gray, and lots depends on what viewpoint you’re taking. Getting emotional or needing to be right on small points can stop a deal right in its tracks. “Smile and walk away” doesn’t come easy for me. I still want to thrash every potential deal to death. Watch out–righteous newbie on the loose! Is there anything worse? (lol)

It’s a hard lesson to learn, the willingness to walk away and trusting the market will provide a better deal–the right deal-- down the road. Thank heavens CREonline is there for reality checks! Muchas gracias. One last heart-to-heart with my best friend. Then I’m off to do my own thing.

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Re: include or exclude foreclosures in comps? - Posted by Royce

Posted by Royce on October 04, 2009 at 11:13:57:

Foreclosures and shortsales are not very good comps. All foreclosures are “as is” sales and of course, many of them are in bad shape. When you are buying a house “as is” you are taking on additional risk. That risk is worth money. An appraiser (atleast in my state) cannot use foreclosures as a comp with good reason. If I worried too much about the foreclosures on the market, I wouldn’t be flipping houses. I bought a 3Br TH for $65,000 and was a little nervous when I saw a much larger TH sell for $65,000 a mile or so away. After doing some research, I found some old pictures of the inside. That house was stripped down to the studs! How can that be a comp? I put $12,000 into updating mine and sold it for $115,000 which is right where my non foreclosure comps were.

My next house I bought at $49,000 (got lucky) just listed it a few days ago and have a lot of interest at $119,900. I have a shortsale next door that was listed for $79,000. That one didn’t have much activity on it but does have an offer in. If the bank accepts the offer, it will probably sell for 80K to a patient buyer that could wait three months or more. Most buyers and realtors do not like dealing with short sales. Because of this, they are worth less. There is another TH with one more bedroom behind mine that sold for $133,000 last week. I’ll probably sell mine for around $110,000. If I used foreclosures for a comp, I would probably listed it for around $90,000 and wondered why it sold in a day.

What I would do is not ignore foreclosures totally but use them as comps only if you can validate the condition of the property. Also, they deserve a slight discount for being “as is”.

Royce

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Re: include or exclude foreclosures in comps? - Posted by Len

Posted by Len on October 03, 2009 at 23:19:39:

Whatever influences the market needs to be taken into account, foreclosures included. Not doing so, is not a realistic analysis of the market.

The question is, “If you are buying, would you pay a higher price, irrespective of the surrounding properties (foreclosures) for what is essentially the same kind of property?”

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Re: include or exclude foreclosures in comps? - Posted by Dave T

Posted by Dave T on October 03, 2009 at 20:25:24:

In one of my markets recently, as much as 80% of the listed properties were foreclosures. I don’t think you can ignore their impact on market values. Foreclosures have driven down prices.

Include them in the comps.

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Re: Confession (long) - Posted by Kristine-CA

Posted by Kristine-CA on October 05, 2009 at 10:05:42:

Ashley: unless your friend is paying all cash, the appraisal for her loan
may help set everyone straight on the price. If she is getting an FHA loan,
the appraiser will almost certainly use all the foreclosures. The agent can
only work so much magic and spin.

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Re: Confession (long) - Posted by Dave T

Posted by Dave T on October 04, 2009 at 17:43:32:

I don’t doubt that the real estate agent told you and your friend that you can’t include foreclosures when pulling comps. The agent wants to get the best price possible for the property (that is, best commission possible) and foreclosures would pull down the comps.

Of course, foreclosures often require significant rehab and are not move in ready, but you can’t tell if the prices reflect the condition of the property. The financial condition of the lenders and the huge inventory of foreclosed real estate on their books is also driving the pricing decisions. Many lenders are accepting significantly less than full price offers just to get the property off their books.

Does this concern your friend? Probably not. Most homeowners buy their primary residence with their hearst, not their brains. They fall in love with a house and decide whether or not they can afford the asking price.

Investors use their established analytical methods to evaluate profit potential or cash flow. Investors make business decisions not emotional decisions.

I suggest you let your friend do as she wishes – she won’t listen to you anyway when the agent is already telling her what a steal the property is now. Never mind that the asking price is just a starting point for negotiation, your friend is probably so much in love with the property that she is prepared to offer full price.

The best you can do for now is suggest your friend make an offer that allows some negotiating room. Accept that she is prepared to pay full price, but maybe she will listen to you when you tell her to offer 15% to 20% less than asking price and then negotiate up from there. After all, experienced home buyers know that the seller is usually willing to accept less that the full asking price.

Have the real estate agent run the comps again for those recently sold properties to show the list price AND the contract price. I bet the contract price (the sale price) will be anywhere from 5% to 12% less than the list price (asking price). Whatever the discount is for your market, double it for your friend’s first offer then let the seller drive the price up to the average discount during contract negotiation.

No matter what your friend does, I suspect that a 15 year holding period is long enough that your friend won’t lose money on her purchase.

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Re: include or exclude foreclosures in comps? - Posted by Ashley

Posted by Ashley on October 04, 2009 at 13:18:22:

Thanks, Royce! Part of this is definitely perspective, whether you’re buying or selling. Any advice on researching condition on older sales?

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Re: include or exclude foreclosures in comps? - Posted by Ashley

Posted by Ashley on October 04, 2009 at 13:23:25:

Hello Len, and thanks - I agree!! I like the way you put it…“If you’re buying, would you pay a higher price…” That’s a great way to think about it.

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what about when the market improves? - Posted by Ashley

Posted by Ashley on October 04, 2009 at 13:38:36:

Hey there, Dave. Thanks for replying to my post. Same with this neighborhood–most are foreclosures. IMHO even if all the other properties were hovels, and this were the only good condition home in a 4 block radius, its value has got to be dragged down by the other sales. I wouldn’t pay pristine prices. Who buys the best house on the worst block and expects that to be a good deal?

What about when the market improves? If today most houses went for, let’s say, $50K, and a retail buyer paid $110K for a good condition home listed at $124K down from $139K, what would have to happen for that property to appreciate? Would its value appreciate or stay stagnant while the lower-valued properties appreciated? Wouldn’t the buyer run the risk that 10 years from now, other homes might sell for $100K (and are now in great condition) but the buyer can’t sell their over-valued home even for the $110K they paid for it?

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Re: include or exclude foreclosures in comps? - Posted by DemosL

Posted by DemosL on October 03, 2009 at 22:54:24:

I’ve had rehabbers tell me they use whatever the most recent sales prices were (regardless if they’re were on foreclosed houses).

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Re: Confession (long) - Posted by Royce

Posted by Royce on October 05, 2009 at 19:33:18:

That is actually incorrect. An appraiser cannot use a foreclosure as a comp. I financed one of the foreclosures that I bought and my appraiser told me that he could only use foreclosures to value my house. He also told me that an appraiser cannot use a distressed/foreclosed property to determine the market value of a normal sale. Here’s a wiki page on the topic.

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Re: include or exclude foreclosures in comps? - Posted by Royce

Posted by Royce on October 04, 2009 at 16:42:20:

A google search of the address works pretty well for me. Example, “1234 orchard” minneapolis mn.

Look for previous listings that haven’t been removed yet. Click on the google cached feature and you will sometimes see the listing even if it was removed from the site. If you can’t find it there, have a realtor send you the past listing.

Royce

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Re: what about when the market improves? - Posted by Dave T

Posted by Dave T on October 04, 2009 at 17:12:42:

I don’t try to predict the future value of property I buy. I am a buy and hold guy. I am really buying the cash flow the property will generate. Does not matter how fast the property appreciates because I am not planning to sell.

Your business model is buy low, sell low. Your wholesale success depends upon quick turnover – you don’t hold your properties long enough to appreciate. I am guessing that you are not financing the sale of your properties, so you can’t use the future value of the property to command a higher sale price. Most likely, your buyers either pay cash or use institutional financing. If using financing, the buyer’s lender will use an appraisal based upon current comps to determine the loan value of the property.

If the standard appraisal for your market includes recent foreclosure sales in determining market value, then you have to take the foreclosures into consideration to establish value. You need to do this both when you are the buyer and the seller because you don’t want to pay more than the property is worth to your buyer (actually your buyer’s lender) and you need to have room to make a profit.

When the market changes and foreclosure sales are the exception rather than the rule, the appraisal process will adapt to the changed market and tend to exclude foreclosure sales.

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Re: include or exclude foreclosures in comps? - Posted by Ashley

Posted by Ashley on October 04, 2009 at 13:47:23:

Thanks for the feedback, DemosL. I mentioned in my reply to Royce, how much you incorporate foreclosure prices in your comps seems to depend on whether you’re buying or selling, and what proportion of the recent sales are foreclosures.

If I were buying, I’d use all the recent sales prices. If I were selling in a n’hood with lots of foreclosures, I’d drop my sales price to encourage a quick sale. If I were selling in a n’hood with few foreclosures, I’d probably have a discount but nowhere near as much the other n’hood. Then again, I like the idea of buying really low and selling low and fast. (shout out to the wholesalers)

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Re: Confession (long) - Posted by Natalie-VA

Posted by Natalie-VA on October 05, 2009 at 21:53:15:

In the “old days” you couldn’t use an REO sale as a comp, but things have changed.

It’s my understanding that appraisal guidelines have recently changed regarding the use of REO sales as comps. I believe that the appraiser must look at the percentage of REO sales versus “normal” sales to make that determination. It used to be up to the appraiser’s discretion, but not anymore.

I wish an appraiser would chime in and give some input here.

–Natalie

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Appraisers, can you please chime in? - Posted by Kristine-CA

Posted by Kristine-CA on October 05, 2009 at 20:25:22:

The re-sale prices I am seeing reflect the comps of all sales. There
well may be regs that require an appraiser to ignore foreclosure sales.
I find it hard to believe that an FHA underwriter doesn’t have special
directives for markets where foreclosures are especially heavy.

In my market, there are some properties for which EVERY sale within
1/2 mile in the last 90 days is a foreclosure. I’m talking 30+ sales. I
have no idea what the appraisers can do in that cases. But what lender
wouldn’t want to know that?