Rehabbing REOs for More ROI

Attention foreclosure rehabbers: Plenty of roughed-up repos are yours for the taking. From San Francisco, Calif., to Cape Coral, Fla., repo rehabbers are snagging discounted digs before the sector snaps back. Cash-strapped lenders, anxious to shore up their depleted balance sheets, are slashing prices and accepting lowball offers, according to investors and brokers across the country.

As foreclosures skyrocket, a growing number of investors are becoming enamored with the idea of buying up foreclosed properties, fixing them up, renting them out, getting them to cash flow until the market turns or selling them for a tidy profit.

Consider repo rehabber Jeremy Burgess. Burgess, a 30-year old real estate investor from Washington state who moved to Detroit, Mich., in 2007, is finding real estate gold in Southeastern Michigan. Burgess — who started real estate company Urban Detroit Wholesalers with his wife, Jeanna Kiehle, and partner Jared Pomranky three years ago — buys, renovates, then flips properties wholesale to out-of-state investors or rents them to locals. Since 2007, Burgess has expanded his business despite the bust, closing more than150 deals. He views the downturn as an opportunity to build his real estate empire and distinguish his firm from others. He typically renovates 12 to 15 properties a month, and is working on seven flips right now.

How does he do it?
Rehabbing Just Right
Burgess uses four filters to hone in on prime REO investments: First, he clusters all his purchases in just two ZIP codes — 48235 and 48221 — on the west side of Detroit. Secondly, he seeks neighborhoods where homeownership is 70 percent or higher. Third, he looks for areas where 50 percent of the homeowners earn $35,000 annually or more a year. Finally, he searches for communities where families have two or more kids with at least a secondary education or higher.

“This helps me narrow down my investment,” claims Burgess, who buys clean, well-kept, foreclosed homes in good or up-and-coming middle-class neighborhoods. “It allows me to cut out 80 percent of the properties I see.”

Burgess said he has four or five real estate agents bird-dogging properties for him, and the leads they generate are sent to his assistant, who he trained how to spot repo gems. Asked what makes a top-notch repo rehabber, Burgess said: “First, you need an awesome team on the ground. Second, a lot of people under-rehab, which gets you 30 to 40 percent less in rents or resale value. And don’t over-rehab.”

He buys Detroit foreclosures for a mere $12,000 — and pays all-cash. He and his partner then hire a non-profit group, Motor City Blight Busters, to do the rehab work, saving thousands on labor costs. Motor City hires and trains local laborers to work as apprentices on the job, keeping costs down. Typically he puts $13,000 to $17,000 worth of improvements into each home, replacing the roof, windows, renovating bathrooms, kitchens, adding new light fixtures, new doors, painting and landscaping.

“I have 14 rentals right now,” said Burgess, noting that his company can get a 12 to 20 percent return on its investment. “Right now 70 percent of my business is wholesaling foreclosures to out-of-state investors. I have 13 wholesale deals I’m working on now.”

He said average rents in Detroit are $800 to $900 a month. Rental properties generate $300 a month each in positive cash flow.
House Cleaning & Leasing for Lenders
While investors in Michigan are finding success flipping and renting their foreclosure inventory, veteran California foreclosure investor Michelle Mangione is working another side of the repo rehab market.

Instead of listing million-dollar homes, the 46-year-old broker and owner of Blue Real Estate Services in Dana Point, Calif., is doing a brisk business managing portfolios of foreclosed properties for lenders and investors. Mangione, and her contractor husband, Jeff Haag, repair, manage and lease distressed properties for their clients. They clean up repos, add paint, carpet, new appliances and then lease them for a fee.

“I’ve re-invented myself,” explained Mangione, noting that she changed her business model along with the changing real estate market. “We hold and manage properties for banks, hedge funds and private investors who are all eager to become landlords. We help them rehab their properties and make them profitable.”

Each rehab, Haag added, costs between $4,000 and $17,000 to complete.

“We have a couple of hundred properties we are managing,” said Haag. “Our plan is to grow it to over 1,000 by year’s end.”

Across the country, even as many people are being more cautious than ever about spending, some investors with cash on hand are deciding that it’s a good time to buy and renovate foreclosures. Prices are down for both labor and materials, and contractors are readily available and able to pay more attention on individual jobs, Haag said.

Risky Business
Still, rehabbing foreclosures is obviously not for everyone. The practice of buying, remodeling, renting and selling repo homes for a profit isn’t without risk, said Leo Nordine, one of the leading REO brokers in Los Angeles and a successful real estate investor. Nordine, of Nordine Realtors, rehabs all his properties before he rents them out.

“The best thing is to get an honest rehab crew. I’ve been with the same crew for 20 years. If you’re just starting out, find a small, one-man operation and stick with them. My crew knows what I like done; I don’t have to tell them what to do.”

But investors, warned Nordine, need to be prepared for surprises.

“Right now, my South Bay investments are doing good, but my Santa Monica properties are doing terrible,” said Nordine, who owns nine multi-family units in Southern California. “I’m up-side down $20,000 a month on my 12-unit complex in Santa Monica. I’m getting slaughtered because rents are down and employers like Google and Yahoo! are moving jobs to northern California. I have eight vacancies because tenants are moving further east.”

What’s bringing the investors back is a wave of foreclosures and short sales that has left the nation awash in relatively inexpensive houses. Real estate experts say their return is a signal that the housing market may have hit bottom — at least in some areas — and that prices eventually could begin to appreciate. Most repo rehabbers say they plan to rent the properties until the market improves and then resell them as prices begin to rise.

Contractors are busy fixing abandoned foreclosures in many cities as the number of foreclosures continues to rise, but Florida has become ground zero of the new rehabbing phenomenon, according to experts there.

In Sun Belt Florida cities such as Miami, Cape Coral and Orlando, where prices rose fastest, many prices have dropped below the cost to build, luring rehab investors. In Cape Coral, there is an unrelenting stream of foreclosures to choose from for power rehabbers, according to Diane Kerper, broker of record at Turn Key Residential. Working with partners Barry Frey and Mike Kopyta, Kerper and her real estate team scout foreclosure homes in Southwest Florida and buy an average of four or five homes a week at the courthouse steps, where hundreds of foreclosure homes are auctioned every weekday.

“We do a broad range of remodels,” said Kerper, whose average list price is $160,000 to $175,000. “It can range from completely redoing a home to a mild renovation. But it’s never simple. Many homes we purchase need a new roof, air conditioning system, water heater and more.”

Government Help
Many investors are hoping that the Federal Housing Administration’s 203 (k) loan program will return. The 203(k) program is an important tool for rehabilitating foreclosed single-family homes. It differs from typical FHA loan programs in that the mortgage covers both the purchase price and the restoration costs. Although it was originally available for investors, the 203(k) loan program is now only available to owner-occupants.

“In 1996, the federal government issued a moratorium on the 203(k) program for investors,” said Skip Schenker, a branch owner at Benchmark Mortgage in Tustin, Calif., who specializes in renovation loan financing. “We need to put pressure on our government to lift the ban on 203(k) loans for investors. The government needs to allow investors to purchase distressed properties. It will open up a huge stream of investors that don’t have the cash to purchase and renovate foreclosures.”

Schenker also pointed out that in January the FHA eliminated the 90-day flip rule, allowing investors to quickly purchase and flip foreclosures without having to wait three months to sell them. Moreover, he added, Congress is crafting legislation aimed at creating a program patterned after cash for clunkers — this time for home weatherization known as “cash for caulkers.” The bill would help homeowners receive up to $12,000 in rebates.  He said the housing bust has idled builders, contractors and construction workers, who could be put to work insulating homes and caulking air leaks.

It’s not clear how the home efficiency plan would be administered — the government may issue rebates to consumers directly, homeowners might get a tax credit, or the program could be run via state agencies. By making American homes more energy efficient, Schenker said, the caulkers program would create more jobs, offer energy savings to consumers, and lower carbon emissions.

“I think it’s going to pass,” predicted Schenker, noting it would be a huge boost for the real estate market. “It stimulates real estate and creates jobs for manufacturers, roofers, contractors, and investors. It’s an important bill that should get passed.”

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