Questions - I saw a house with a sign that said it was going to be auctioned off; how does that work? Can I bid and what should I know?
Answer – For the most part they don’t really hold and auction with people shouting out bids; but, yes you could bid on a house during one of the on-line auctions that you’ve seen. There are some auctions that are held in public venues where live bidding goes on; albeit a lot quieter than you might imagine. If you are a first time buyer, going to an auction or bidding on-line would certainly be a brave thing (some might say foolhardy) to do.
Homes get put into auctions in many different ways. It may be after they are foreclosed by a lender and sometimes after they’ve been on the market for a long time. There’s a reason that they were on the market for a long time and that is part of the unknown risk involved. Sometimes the house isn’t yet foreclosed, but is in the short sale process and the seller themselves have put it in the auction. In any of those cases there is also the possibility that other liens exist against the property and it is your responsibility to ferret them out before you bid. The auction company is not going to do that for you.
Most auction houses are sold “as is”, which is to say that you take as it sits. Auction purchase agreements may have some provision for an inspection after the sale, with some outs for the buyer if the inspection finds really bad stuff, but you might also be out some of your money by then. You need to study closely the terms of the auction sale to see what rights you have, especially after you’ve “won” the bid on a property. Winning the auction bid is really winning the right to proceed to the sale and the first step is to sign an actual purchase agreement with the seller. Study that document carefully! Most of the Auction Purchase Agreements that I found on-line did not have provisions for after the sale inspections, but rely instead on the pre-auction open house (see below).
In order to participate in an auction there is a pre-auction process that you will need to go through, which includes registering for the auction and providing a credit card that will have an auction registration/hold fee of about $2,500 put on it. That is refunded if you are not the successful bidder at the auction, but it is there to make sure that you are a serious bidder, especially if you win a bid. If you win the bid, your credit card deposit will be collected if you do not make the required earnest money deposit on the day of the auction. Your earnest money deposit is made with a certified check or a wire transfer. You may not just charge the earnest money deposit to the credit card.
You will also need to provide proof that you have the money lined up to complete the purchase. There is none of this, “I’ll get a mortgage after I win the bid” stuff allowed; although there are companies that have programs to pre-approve you for lines of credit that can be tapped for auction bidding – click here for more on that. You probably have to answer questions over the phone ahead of the auction about your qualifications to bid and present evidence of your financial capabilities.
During the pre-auction period you are expected to do your due diligence research by reading any and all materials and disclosures about the property that are provided by the auction site and either doing a drive-by of the property or attending an open house for it (the auction houses use local real estate agents to hold the properties open before the auction). An open house is not the same as an inspection, but you could have an inspector or home rehab specialist walk through with you to get a better idea of the things that might be wrong and the costs involved to fix them. The inspector or rehab specialist is not going to be allowed to do all of the things that he/she would in a normal home inspection.
You also need to understand that in most residential auctions there is what’s called a “Buyer Premium” which is added to the sale price. That is basically a commission to the auction house that you, the buyer, pay for the privilege of bidding and winning the house at what is hopefully a great price. That Buyer Premium can be quite hefty (10% of the purchase price is fairly common) and is indicated on the auction documents for the property. In a normal real estate transaction the seller pays the commissions involved, but in an auction it is the buyer.
Once you understand what the Buyer Premium is that you will have to pay and have a better idea of the potential costs for repairs, you can add it to the great looking asking price(or the price that you are going to offer) and see if it all still makes sense. Remember, too, that the auction seller may not be required to accept any bid. There are absolute auctions and reserve auctions. In the absolute auction the highest bidder wins, period. In the reserve auction, which most of the ones on-line are, the seller has set a price (the reserve price), below which he will not accept the bid. The advertised price is usually a target that the seller would like to get, but somewhere in the background there is usually that “reserve price”. A large percentage of reserve auctions end up with the property not being sold and then going back on the regular market. You can actually find houses being sold at auction where $1 is a valid bid (click here for examples). Very few ever sell for a dollar but a large number actually sell for less than$1,000, mostly tear-downs.
Probably the best thing to do is to go do some more research on auctions and how they work. Auction.com is good site on which to begin that research. Here’s a link to a good read from MSN on buying foreclosed homes at auction. My gut feel is that auctions are not for the first-time buyer. It is even harder in an auction setting that is it buying a foreclosed home that is listed in the normal way on your local MLS. So, my advice and answer to your initial question about should you try it is No. Stick with the normal real estate process for your first home buy.
Here are some more articles to read that focus on the downside or cautions about buying through an auction.