Masochists guide to buying a HUD foreclosure

Everyone and their brother is buying real estate to rent to a tenant now because prices are low and the rental market is red hot. Most investors pay cash and buy low priced condos. More and more, I see well-meaning folks choosing to buy HUD foreclosures that are $100,000.00 or less. These are properties that had FHA mortgages, were foreclosed and HUD is reselling them after the foreclosure.

Buying a HUD foreclosure is a quirky mess and much harder than buying a Fannie Mae or Freddie Mac foreclosure, which I wrote about here.

In fact, you pretty much have to be a total masochist to put yourself through buying one of these. I don’t recommend buying one of these as your primary residence. Many of the properties are a wreck and you will have problems with the appraisal (see number 2 below). Only seasoned investors should buy these, and even they should be aware that they are marching into a swamp and should proceed with caution.

Here’s why HUD buys are so painful:

1. Earnest money will be gone if you cancel. I often tell clients that there is no way they will lose any earnest money on a purchase because I watch the date deadlines carefully and I know how to get the earnest back. Scratch that on a HUD buy. It is VERY LIKELY that you will lose your earnest money if you cancel a HUD purchase after the home inspection or later. Generally, the earnest money is only $500 to $1000, but who wants to flush that down the drain? HUD is terrible about returning deposits and if you cancel, the earnest money is toast and most likely you will never see it again.

2. Watch out for the appraisal if you get a mortgage. If you try to get a mortgage to buy a HUD property, most likely the appraiser will find problems with the property and will require that these things be repaired before closing. I recently had a Buyer try to purchase a HUD and the appraiser wanted a structural engineer to check the foundation and required thousand in repairs. That deal was dead on arrival. The problem is that you can’t make the repairs since you don’t own the property and HUD will refuse to make them. ┬áThere is a type of FHA mortgage called a 203k loan that you can get to make repairs on the property, but getting a 203k loan is like scaling┬áMt. Everest barefoot.

3. No attorney approval clause. Your attorney can’t make any changes to the HUD contract. You are stuck with it. It is an “as is” sale. You can’t cancel the contract 5 business days after signing it, like a traditional contract.

4. No title insurance from seller. HUD does not pay for title insurance, so you will have to pay $1500 to $2000 for an owner’s title insurance policy. Normally, the seller does buy title insurance, but HUD buys are different and the buyer has to pop for it.

5. With a condo, you will get stuck with 6 months of the foreclosed owners dues (plus attorney’s fees). Illinois law allows condo associations to charge the buyer for 6 months of the foreclosed owner’s condo dues, plus attorney’s fees. Usually, the seller will pay this (about 65% of the time) but not on a HUD buy. You will get sacked with this extra cost which ranges from $900 to $4000. Freaked out about buying a HUD yet? I don’t mean to be so negative, but I speak the truth here and it is not pretty.

6. You pay for extensions even if it’s the seller’s fault. This is perhaps the most annoying facet of buying a HUD. HUDs often close late, mainly due to the seller’s delay in ordering the paid assessment letter from the condo association if the property is a condo. If the closing does not happen in 45 days,the Buyer has to sign an extension form AND pay for the extension. The payment depends on the sales price and is about $200. The buyer has to do this even if the delay is the seller’s fault. The selling real agent has to handle this chore. If the agent doesn’t ask for an extension, the property goes back on the market and you lose your earnest money.

7. Waiting on the RESPA at closing. Assuming you finally get to closing, you have to sit at closing and wait until HUD signs the RESPA form that has all of the closing figures on it. They will not let you sign it until HUD signs it. Make sure you have three books fired up on your Kindle because you will be waiting for some time my friend.

8. Buyer pays for local transfer taxes. If you buy a property in a town that has a local transfer tax (that the seller would normally pay) like Elk Grove or Schaumburg, you Mr. Buyer will have to pay for and obtain the transfer tax stamp before closing. The seller will not pay for it or go get it.

You are far better off buying a Fannie Mae or Freddie Mac foreclosure (although they have their own quirks), but please be careful with HUD buys.

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Related posts:

  1. The Quirks of Buying a Fannie Mae Foreclosure
  2. Update: Quirks of buying FNMA foreclosure
  3. Short sale vs. foreclosure
  4. So you want to buy a foreclosure?
  5. One less quirk to buying a Fannie Mae foreclosure

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