Opportunistic Fund Basics: How to flip a house at trustee sale (foreclosure)

I would say the number one question asked at trustee sales is: “How does this work?” So I figured I would share how this works.

Let me first say that this is specific information for particular markets I have worked in, all markets and locales have slight variations and different legal requirements. So consult professionals in your local area (attorney’s, title companies, etc.)

Most of the time you will need cash or cash equivalent (cashier’s checks) to bid at trustee sale auctions, some states like Arizona allow you to bid with a deposit amount of $10,000 and pay the balance before 5:00 pm the following day. However, most of the time you pay all of it up front as you finish bidding on the property.

Step 1: Get the List

Get a list of foreclosures for the upcoming day, week or month (several sources for this list exist most of the good ones you have to pay for access). Once you have the list which comes in the form of a spreadsheet, you will then begin to shift through the information. A starting point you may want only to try and bid on houses with an assessed value of $100,000 to $150,000, built in 2000 to 2010.

Step 2:    Drive the property

Once you have the list, you can go and physically drive the houses. Many of the houses will be occupied, and you won’t be able to see the insides, but you can now determine the condition of the house from the exterior and the neighborhood feel. Unless you are a weirdo like me, you probably don’t go out for drives and drive random neighborhoods on the weekends. The feel of a neighborhood is important when you comp (come up with a market value) of the house later. Make sure to take notes of the houses and take pictures of the houses. Why you need to drive the houses it the house could have burnt down and is now just a concrete slab, or maybe it’s vacant but they previous owners tore all the windows and doors out of the house and jackhammered up the driveway. (Yes we’ve had those things happen)

*hint takes a picture of the numerical address before taking pics of the house, so you know when one house stops and the next begins in your camera later.

Step 3:    Title Search

Depending on your relationship with your county clerk or your title company you may be able to do this before step 2 but to depend on your size of operations you will need to pay for a title search. So that’s why I suggest driving the list of houses first and then whittling down your list further before you start to research chain of title or pay for title searches. This is one of the most important steps in the entire process just as it is important to know that the house physically exists you are only buying a lien position at the trustee sale. So you could be buying a 2nd or 3rd position lien and have hundreds of thousands in a senior position. (I have seen people do this and lose several hundred thousand dollars in a couple of seconds, and it is very cutthroat but most of the fellow bidders will not stop you because they know your lose is their gain) Or you may encounter tax liens, or judgments against the property. The previous owner could have had solar panels or new windows installed, and they recorded a fixture lien on the property till they were paid off, which means you might be stuck paying for it on top of your bid. Do your homework on this part of the process or pay for a title search.

Step 4:    Comp

This is the step that separates the pros and amateurs. As this is both an art and science. This is going to ruffle some feathers, but 99% of realtors out there are terrible at this part, and I know realtors are going to flip out, but it’s true. Realtors like to use CMA (comparable market analysis) and give you a price per square foot. They will run the comps like 123 Main St is 3-2 1200 sq. ft. so search for 3-2 1000 – 1400 sq. ft. within a ½ mile radius and then they go through the list and use those as comps. I suggest using programs like Redfin, or Zillow to see active and sold listings. What the CMA does not take into account is your half mile radius might be a completely different subdivision or cross over a highway. Of course, a realtor can refine the CMA, but it is a very cumbersome process. I have found appraisers are much better at comping compared to realtors. Appraisers look at houses with pluses and minuses. That 3-2 1200 sq. ft. house might be a 2 story and the comps on 2 stories are 20% less than 1 stories. Ultimately you can spend years on doing this and never be 100% accurate.

But I digress your goal in this step is to come up with your ARV (After Repair Value) or market value of course this can fluctuate as well as you could do a full interior and exterior remodel on the house and shoot for a much higher price. This market value price will then help you determine additional fees associated with selling the property. (We budget 6-8% in closing fees, this consist of realtor fees, title fees, home warranties, property taxes, hoa fees, utilities amongst others.)

Step 5:    Remodel Budget

This step corresponds to the comp step but is separate as you need to know what market value is and then what your budget is for remodeling. For us we look at it is basic remodels (paint, carpet, flooring, appliances, landscape and maybe a few upgrades like granite or nicer light fixtures) this can fluctuate as we look at the house and the age of the house or the neighborhood. Higher end neighborhoods will require higher end remodels. This part of the equation then will allow you to know what your max that you would pay for a house given your required rate or amount needed.

For instance, I want to make 10% return on $200,000 property ($20k profit). Start with 200k market value deduct my 6% in selling and holding fees (200k-12K = 188k); then I deduct my $15k remodel budget (188K- 15k= $173k) then I deduct the profit I need to make (173k-20k= 153k). That then gives me my max bid price on the property given my required rate of return. Now do that for every house you drove that had a clean title report and get ready for the live auction.

Step 6:    Live Auction

You should now have your cashier’s checks made out to yourself and you are armed with your list of properties that you have driven, done title searches on, come up with your comp for market price and have your max bid.  Now it is time for the live auction; this will be a little nerve wracking depending on your current area this could range from 6-10 auction cryers auctioning off properties simultaneously with hundreds of other bidders. Alternatively, it could be one auctioneer and a couple of bidders. The bummer is that all those houses you drove and did research on 90% of them will postpone or cancel, and that is why you need to drive so many potential houses just to buy one.

Now let’s say that the trustee/auctioneer does start to cry one on your list then you have to wait to see what the opening bid is and if it is below your max bid. Most of the time you will just yell out the amount over the bid. So if the bid is $50k you can just bid $50,001 if no one else bids you win that auction and turn over your cashier’s checks and sign the receipt. I must caution that most of the time if your max bid was 153k and the bid is 50k you will have competition. They may bid it up 10k a time up to 110k and then drop down to 5k at a time till 135k and then slow down bidding to 1k at a time. However, this is completely dependent on the other people there, and this too can be an art of bidding. Waiting until it gets to going once, going twice and then bid, or you could wait till the bidding has slowed down to the final bit before you jump in, or you can be super aggressive and jump the bid to your max right away. This part is kind of like poker and is about reading the other bidders.

Step 7: Possession

Say you did win the bid at 145k (8K below your max) then you start the possession process. If vacant, then woo-hoo good job change out the locks and the house is yours to start to remodel. Note of caution it may take the trustee a couple of weeks to get you your executed deed which officially transfer ownership to you and there are times in those two weeks that a person could circumvent the sale, and the trustee will simply send you back your cashier’s checks. Which if you spent money on the remodel you may be at a loss for that remodel cost. That is rare on a vacant house but has happened before so proceed with caution. Or in some states like Michigan there is a Six-month redemption period of mortgage foreclosure sales, again proceed with caution on your area.

If the property is occupied, then you need to start the legal proceedings to gain possession. This is very different from state to state so consult an attorney. Tenants (renters) have more rights typically than former homeowners (occupants) since they have been given a lot more legal notice of the process.

Step 8:    Remodel

Get your contractor or do the work yourself, that is more up to how many houses you are doing and how skilled you are in doing the remodels. I suggest hiring a contractor and getting multiple bids, as a contractor needs to balance how much can they charge to make a profit but little enough to still get the job. Keep in mind your budget that you established when you bought the house and hopefully, you can get the scope of work done within your budget.

Step 9:    Sell Baby, Sell!!

The rubber meets the road here, now that the remodel is done and you are ready to sell the house redo your comps and hopefully there haven't been any crappy comps come on the market since you bought it and then have your realtor list the house. Hopefully, you stuck to your remodel budget of 15k, you comp value stayed true at 200k, and you list it and go into contract at your list price.

Step 10: Collect your money & Repeat

Close the transaction, collect your money, rinse and repeat the process hopefully 20k richer.
All in all that is a much more detailed answer to the question how does this all work, but also still just scratching the surface of the nuances of this process. If you want more information, please feel free to contact our office for our newsletter or detailed information on how to do this at scale.

Cheers and Happy Taco Tuesday,