First-Time Buyers: Beware of Foreclosures & Bankruptcy Sales

Having just closed a bankruptcy sale on Maui representing the buyer, some serious issues came up that would be difficult, if not impossible, for a first-time buyer to deal with.

What you don’t get as a buyer if you are buying either a bank owned (REO) property or a trustee sales for a bankruptcy are the following:

1. No seller disclosure at all. Banks and trustees will not fill out any disclosure, so you get no history of any issues with regards to the property.

2. Typically you will not get a survey and sometimes the seller won’t allow a buyer to have a survey done even if a buyer pays for it because if a survey is done and encroachments are noted, they could cloud the title. If a survey is not done, title insurance will not cover later discovered problems.

3. Termite inspections may or may not be allowed, but the bank or trustee won’t pay for the inspections or tenting. If the house has termites, lenders won’t lend unless they are treated.

4. If a home inspection is done and paid for by a buyer, banks and trustees will not do repairs most of the time. In this case, the house was not insurable for hurricane insurance because there were no tie ins to the roof with hurricane clips to the walls down to the foundation.

5. Banks and trustees typically will only deliver a quit claim deed with no warranty. Title insurance companies may only issue a limited policy as a result. Some lenders will not accept a limited policy.

6. Many times utilities are totally turned off. You may have a very difficult time getting power and water turned back on or the water meter may have been removed for non-payment. All of this has to be done before you own the property if you want to inspect the plumbing and electrical systems.

7. No representation as to permit status for any structures will be provided by the seller. There may be open permits or totally un-permitted buildings on the property. No un-permitted improvements will have any value for a lender and will not be included in an appraiser’s report, except for a “cost to cure,” which may be an extremely high number because you will have to permit improvements with “after the fact” permits, provide all new drawings, pay fines, and get a contractor to oversee the process.

8. If the property is on a private septic or cesspool system, it is totally up the buyer to ascertain the functionality of the system. A failed cesspool can cost $15,000 to $20,000 to replace with a septic system. If a cesspool serves two living structures, it is in violation of Federal law. See: Cesspool vs Septic System.

Proceed with Caution

All of this is just a start for a first-time buyer. In reality, only experienced buyers with lots of cash should be buying properties like these. Most of the time, the only way a first-time buyer can purchase a property like this is through a re-habilitation type of loan, where all of the improvements that are needed get financed and constructed as part of the loan process using only licensed contractors and bonded construction.

The property that my client purchased was on the market for 8 months, went through numerous escrows with first-time buyers. All of those deals crashed and burned and my client came in with all cash, 30 day closing, no warranties or guaranties of any kind from the seller, no survey, and no termite tenting with the house full of termites, and to top it off, a cesspool with questionable functionality.

Yes, she got what appears to be a “good deal,” but she has to spend $100,000 in cash to make the property safe and livable. Today, she has a backhoe in the back yard removing over 100 fighting chicken cages and a mountain of junk.

Bottom Line

The best thing a buyer can do who is contemplating buying a REO or trustee sale is to hire an experienced Realtor who knows construction and has actually re-built houses for themselves. It is a painful, expensive process and it takes a lot of time and patience. My wife Laura said she would divorce if I ever bought another one to work on.