Owner-Occupied Properties Seen As an Opportunity

Owner-occupied, bank-owned properties, will continue to both open business opportunities and increase loss severity pressures on lender-servicers.

Recent data show it will take about 49 months to clear around 8 million properties in or at risk of foreclosure including nonperforming assets that are part of the so called “shadow inventory,” says Cheryl Lang, president and CEO of Integrated Mortgage Solutions, a provider of REO property inspections and rehabilitation services. “It’s a Catch-22,” she says, since regulatory requirements and government intervention keeps feeding into the current shadow inventory making it costly for lender-servicers to manage them in ways that make sense to banks and borrowers alike.

According to Morgan Stanley, Fannie Mae, Freddie Mac and other U.S. government entities own only 360,000 REOs, she said, the same source values the current volume of REO properties at 9.1 billion.

“There is opportunity,” but not through temporary government-generated incentives, she argues. The industry needs to “get rid of the Home Affordable Modification Program” and be creative with incentives offered. She supports incentives for the banks so they can sell more REO properties, because that would mean “spending the taxpayer’s money wisely…keeping the money in the right hands.”

Nonetheless, according to Lang, the most effective REO marketing and management is an owner-renter-occupied strategy that mitigates losses for banks, borrowers and neighborhoods for the long term.

Paul Hayman, president of TenantAccess—an REO management firm that focuses on occupied homes with at least one tenant and serves eight of the country’s largest banks—agrees that lender-servicers are now looking at options that help enable current owner occupant to rent the property. “There is a lot of discussion about these options but the volume is relatively low as servicers and lenders are still learning about it,” he says, because it is a relatively new marketing approach.

There are distinctive advantages and disadvantages in marketing to the former owner occupant, or renter, compared to an investor, says TenantAccess chief operating officer, Denia Graham. Typically investors purchasing REO inventory are looking for discounts. “A 30% discount is not unheard off, rather it would be more of what they would expect,” she said. Often they try to negotiate discounts of 50% or more. “Investors would ask for a good deal” on properties they take on in an “as is” condition. “They are going to want a discount for their efforts to rehabilitate these properties.

Servicers benefit in dealing with investors is that they typically are cash buyers, “so you have a higher chance of closing and disposing of that asset” vs. the buyer being the former owner or existing tenant or occupant. One of the main reasons why residents do not represent a convenient buyer for the asset owner is that due to more restrictive credit risk criteria applied by the banks usually residents have a difficult time to qualify for a loan. Current credit score and downpayment qualifying requirements are high.

What is beneficial to the servicer is that these buyers are willing to pay at fair market value, so there are much smaller cumulative losses compared to discount sales to investors. “They will pay at fair market value, they already like the house, they are already emotionally attached to it,” she said.

A negative side of that sale is that the majority of those sales are getting FHA financing because it is readily available while some of the other conventional financing has dried up. Also, in order to meet FHA financing standards quite often lender-servicers need to do repairs.

The bottom line, Graham says, is that choices need to be selected on a case-by-case basis since property conditions and markets are different. “Deferred maintenance cost” or the cost efficiency of repairs is a decisive factor. The threshold that would make an REO property a better fit for investors is when servicers face thousands of dollars in maintenance expenses. Properties that require deferred maintenance costs of over $60,000 but do not qualify for FHA, VA or conventional financing unless they are repaired are prime candidates for investors.

The dilemma in making such decision is affected by economic and political factors including the national effort to stabilize neighborhoods with high numbers of foreclosed and vacant properties. “It can be a win-win for all parties, the investors and renter-occupants. If an investor purchases a property that is being rented and the renter is paying rent timely, and deferred maintenance repairs and safety inhabitability issues are taken care of, than that already is a performing asset and investors not only are interested but also willing to pay almost fair market value prices because now they’re buying it off of a cap rate, as opposed to gambling with a property and deferring the value of unknown repairs. It also is good for the resident because if they pay rent regularly the investor will offer them a long-term lease.” It is a model to stabilize communities and if any safe health hazard issues have been updated before the lender-servicer tries to sell that asset to the investor it will prevent the 30% discount.

The biggest problem for lender-servicers and neighborhoods are vacant properties. Graham says the best strategy in such cases is to consider lease-and-hold options. The best way to stabilize the market is to balance out basic supply and demand, she says.  For example, historically the Sun Belt states have appreciated well, so probably housing prices in those states which have or almost have hit bottom will bounce up again maybe in two to five years so it is strategically sound to hold on to those properties. It helps stabilize neighborhoods because residents are contributing to the revitalization of the community by living/doing grocery shopping there. “It’s a win win.”