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Understanding the Market » Blog Archive » Understanding Real Estate Auctions
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Understanding Real Estate Auctions


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One of the consequences of mortgage defaults is that banks (and other lenders) end up owning properties. Once a bank owns a property it is immediately responsible for all payments associated with the property (taxes, maintenance fees and so forth). Banks have a strong incentive to sell the property as soon as possible. One way that such properties are marketed is through real estate auctions (some homeowners may sell their homes at auction for other reasons as well).

There are two major systems for real estate auctions in the US, one government and one private. The government auctions (see here) are designed to sell houses that the government owns (the government owns these houses when people borrow money from government agencies such as the HUD or VA do not pay their mortgages and the government agency forecloses their home).

Homes sold by the U.S. government are listed on their web site. The government encourages buyers to work with a real estate agent who can help the buyer with the bidding process which differs by agency; HUD accepts the highest “reasonable” bid offered during a fixed period, but there are also special discounts for people such as teachers and police officers who buy houses in certain areas. Once the government accepts your offer the transaction is more or less like any other home sale (the seller pays the commission to real estate agents, the usual policy in the U.S.). The government seems to try to make their auctions as much as possible like buying a house from an ordinary seller; in the U.S. normally (perhaps before the current crisis) a house would be listed for sale for a few weeks, the real estate agent would then present the offers by purchasers to the seller, and then the closing (final transfer of the house from buyer to seller) might happen a month later. So a transaction would take about two months from the initial listing of the home until the sale. Of course if the house is viewed as priced too high then it could take much longer and the house might be listed for many months before it is sold.

Private auctions exist in many forms, from online sites such as eBay to traditional auction companies (see, among many others, the site of Elite Auctions in California or the NAA auction site).

The NAA (National Auction Association) estimates that there were about $16 billion in real estate auction proceeds in 2007 (see here). If the average US house price is around $200,000 (a very rough estimate) that probably means that there were around 80,000 or so homes sold by auction last year. This is roughly 1.5% of the 5.5 million sales of existing homes last year.

Auctions, like most advertising, are shifting from newspapers to the internet. If you Google “real estate auction” you will get over 500,000 hits.There is a perception in the market that if a bank acquires very nice houses that they might sell them through real estate agents and only less desirable houses will be sold via auction. To protect sellers, there is often a reserve price, below which the house will not be sold. Buyers are at some risk of paying too much, which tends to keep prices low. There are companies that help you bid at auction (such as this one).

Buying a house at auction is a bit riskier to the buyer than buying a house directly from the seller. When you buy a house in the U.S. you traditionally have the right to have an independent inspector evaluate the home and after the inspection you can negotiate with the seller to fix various problems in the house or get a reduction in the price. If you go to an auction you may be interested in 5 houses and it would be very expensive to have inspections done on all five.

In the U.S. banks tend to pre-qualify home buyers; a home buyer would go to the bank before the auction and be approved for a mortgage of a particular amount at a particular rate (depending on income and credit score and other factors). Banks appear to treat homes purchased at auction more or less like other homes. Home auctions increase when foreclosures are high, and foreclosures are rising rapidly due to the subprime mortgage crisis. As home prices fall and the economy slows, there is increasing pressure on homeowners who have large mortgages relative to the value of their property (remember that in the U.S. normal mortgages are 80% of value and at the height of the housing bubble there were banks who loaned more than 100% of the value of the home). If a homeowner has any serious trouble (loss of a job or bad health) and it is impossible to sell the home for more than the mortgage then there is an increasing chance the home could end up at auction.

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