Banks Seem More Willing to Cut 'Upset' Prices

Once Golden and his father — who together run a 50-year-old family business of buying and flipping foreclosed properties — are done fixing this place, they hope to sell it for about $480,000, netting up to $80,000 after expenses.

Buying the house wouldn't have made sense but for a small detail: The mortgage lender, HSBC, put it up for auction for $90,000 less than it was owed. In other words, it lowered the "upset price" of the property. The upset price — also called the "judgment amount" — is what the bank is owed on the property, usually the sum of the outstanding mortgage and any interest and fees accumulated since the start of the foreclosure process. Normally, lenders put up houses for auction with bids starting at the upset price in order to recoup their costs.

But as the threat of a wave of foreclosures increases, some banks are beginning to reconsider their required bids. "In the past few months, I'm starting to see banks come down on upset prices," Golden says.

He is certainly hopeful this trend will continue. For real-estate investors or simply folks looking for a cheaper home to live in, finding a deal in foreclosures these days is becoming increasingly difficult. Many of the homeowners now in foreclosure have drained the equity in their homes with multiple refinancings, mortgages for more than 100% of the property, or simply bought at the height of the market. This is bad news for flippers, as many houses now go to foreclosure with upset prices that are actually higher than what the homes are really worth. Couple that with the increased inventory on the real estate market — hence more homes for buyers to choose from — and it's no wonder Golden's profit margins have sizably narrowed in the recent past, he explains.

But that may all change if more banks start to lower their upset prices in an effort to move properties faster. The banks, after all, know how much these houses are worth. Before a house is put up for foreclosure auction, it's typically appraised. And while banks weren't as diligent with these appraisals when the market was booming, that's starting to change, says Brian Tracz, a New York-based real estate attorney specializing in foreclosures.

"For the last five years, the banks blindly bid their judgment amount to recoup their loss," Tracz says. "Now I think you're going to start seeing banks bidding less if the appraised values don't justify the judgment amount."

A spokeswoman for HSBC — the bank that sold the foreclosed house to Golden — said in a written statement that she cannot comment on individual properties or on the frequency of this scenario. "In some instances, property value at auction may be lower than anticipated," she wrote. "HSBC evaluates each situation on a case-by-case basis and acts accordingly."

To be sure, this trend is still in its earliest of stages and is yet to be seen in many parts of the country. In Florida's Miami-Dade county, for example, where almost 25,000 properties went into foreclosure in 2006, the banks are not lowering their upset prices yet, according to Richard Housey, a real-estate investor who specializes in pre-foreclosures and attends each of the county's twice-weekly auctions. "That's been a real problem for investors," he says.

But in the Chicago area, lenders are not only starting to lower the upset prices on properties, they're also becoming more flexible with so-called short sales, says Jane Garvey, president, Chicago Creative Investors Association, a local real estate investors network. (With short sales, a buyer negotiates with the lender to purchase the property for less than what the house is worth before it goes into foreclosure.)

In all, whether or not a lender will lower a property's upset price largely depends on where the property is located, says Jay Brinkman, vice president of research and economics at the Mortgage Bankers Association (MBAA), an industry group. If lenders expect real-estate prices to go down in a particular area, they might decide to put it on the market now and cut their potential losses. If they expect prices to remain steady, they may hold on to the property for a better price later on.

Take Los Angeles. Lenders are beginning to lower the upset prices on properties in Los Angeles County, but not in the more steady Orange and Ventura Counties, says Larry Loik, founder of the Real Estate Investor Network in California.

Needless to say, the concept of lowering upset prices isn't new. It was particularly common in the housing crash of the early 1990s, when lenders faced a glut of hard-to-move properties, says Jonathan Miller, president of Miller Samuel Real Estate Appraisers in New York. But now, Miller doesn't expect such discounts to become nearly as widespread. "Lenders have become much more sophisticated in terms of avoiding foreclosures," he says. "One thing they learned in the last housing downturn is it's extremely expensive in terms of managing properties." Instead, banks will now focus on helping homeowners prevent foreclosure, he says.

But that may be more difficult if the lender that originated the mortgage sold it to investors in the form of mortgage securities — a particularly likely scenario in the subprime market where foreclosures are now most common. When a bank sells a loan to investors, it has less flexibility to negotiate a settlement with the borrower, such as refinancing at better terms or repackaging the loan so that any delinquent payments are tacked on to the remaining loan balance, says MBAA's Brinkman. Once the property is in foreclosure, on the other hand, the lender might have fewer of such limitations, he says.