Wholesaling offers a great strategy for getting started as a real estate investor without a ton of cash. But, new investors often have a lot of questions about what properties they can wholesale. So today I’m going to answer the question: can you wholesale pre-foreclosures?
Yes, you can absolutely wholesale a pre-foreclosure property. But, you need to be careful if the property turns into a short sale, as that can complicate a wholesale deal. And, new investors need to avoid the misconception that wholesaling is easy. It takes a ton of time and work to do successfully.
I’ll cover more details about wholesaling foreclosures in this article. Specifically, I’ll dive into the below topics:
- What Is Wholesaling?
- What’s a Pre-foreclosure Property?
- Wholesaling Pre-foreclosures
- Short Sale Challenges
- The Wholesaling Misconception
What Is Wholesaling?
Before discussing pre-foreclosures, I need to provide an overview of real estate wholesaling, in general. At surface level, this strategy only involves a few steps. Investors 1) find a deal, 2) negotiate with the seller, 3) put the property under contract, and 4) sell – or assign – that contract to a third-party investor who actually purchases the home. And, wholesalers do this for a fee, making a profit on the transaction. In other words, wholesalers make money without the hassle of dealing with a rehab.
As a result, wholesalers don’t actually purchase homes. Instead, they simply find the properties to put under contract. But, as they generally assign these contracts to fix & flip investors, they need to find properties that fit their investment criteria. Broadly speaking, fix & flip investors look for distressed properties that they can purchase for a discount. That way, they can purchase and rehab a property for less than the after-rehab sales price, creating a profit margin on the deal.
What’s a Pre-foreclosure Property?
As discussed above, wholesalers look for properties that appeal to fix & flip investors. In general, these sorts of distressed properties won’t qualify for traditional mortgages, as they require too many repairs. Accordingly, investors using hard money loans are typically the only people to whom a wholesaler can assign a contract. And, pre-foreclosure properties often fit this criteria, making them the target of many wholesalers.
Simply put, a pre-foreclosure property has not been taken back by the bank yet, but the bank plans on doing so. When mortgage borrowers stop paying loans, lenders send them a series of late notices. Eventually, and the time period varies by lender, the borrower will receive a notice of default. This notice constitutes the first formal step in the foreclosure process, and it must be publicly recorded—usually at the local courthouse.
Any property that has had a notice of default filed against it—but hasn’t actually been foreclosed upon—qualifies as a pre-foreclosure property. And, due to the public disclosure requirement, many wholesalers find these potential deals by inspecting publicly available information. Wholesalers see these as potential win-win situations.
First, the wholesaler has an opportunity to sign a contract for a home at a discount, as many homeowners will sell at a cut-rate price just to avoid a foreclosure. Second, many of these homeowners have some equity in their properties, but due to needed repairs, they cannot sell to buyers using traditional financing. This makes working with a wholesaler a great opportunity for the seller.
Now, back to the original question: can you wholesale pre-foreclosures? Yes, you absolutely can! While every deal differs slightly, here are the basic steps to wholesaling one of these properties:
- Step 1, Monitor public records: Every municipality handles this differently, but find out how and where yours publishes notices of default. Then, regularly monitor these notices to identify potential deals. Alternatively, you can pay for subscription-based services that publish this information. You do not need to wholesale in your area, in fact you can monitor notices of default from all over the country with these services. Wholesaling out of state is a common strategy as well!
NOTE: Due to the COVID-19 government-backed loan foreclosure moratorium, there’s a tremendous shortage of pre-foreclosure and foreclosure properties on the market currently. This reality makes wholesaling pre-foreclosures a challenging strategy for the time being.
- Step 2, Approach the owner with an offer: Once you identify a potential pre-foreclosure deal, approach the owner with an offer. Many owners in this situation will accept significantly less than retail price to A) avoid a foreclosure on their records, and B) take out some equity from their property as cash. After the negotiating period, if the owner accepts your final offer, place the property under contract.
- Step 3, Assign the contract to another investor: Most successful wholesalers have a network of investors willing to purchase these contracts. I recommend that, before you put a wholesale deal under contract, you’ve already identified primary and back-up buyers. Then, once under contract, you assign the contract to one of these investors, making a profit in the process.
Short Sale Challenges
While pre-foreclosures can be great options for wholesalers, they also come with a potential complication—short sales. Frequently, banks want to avoid the time, effort, and cost of a foreclosure. As a result, many lenders instead allow short sales, a type of alternative to a foreclosure. With a short sale, the lender agrees to take less (or “take short”) than the amount owed on a mortgage. This scenario arises due to two reasons:
- The borrower is so far behind on payments that they won’t be able to catch up.
- The housing market has dropped significantly, meaning the borrower owes more on the loan than the value of the property.
Due to the fact that the lender has agreed to accept less than the amount owed on the loan, they need to sign off on any short sale. To put a short sale property under contract as a wholesaler, you don’t just need the seller’s agreement—the bank must agree to the deal, too. And, banks tend to put significant restrictions on these sorts of sales, which may explicitly prohibit contract assignment.
Bottom line, be careful attempting to wholesale a pre-foreclosure property that has entered a short sale agreement with the bank. This can—and likely will—derail the wholesale process. But, outside of short sales, yes, you can certainly wholesale pre-foreclosure properties!
The Wholesaling Misconception
I’d be remiss to not include a final warning. Unfortunately, a major misconception about wholesaling exists: many new real estate investors believe this is an easy strategy.
Yes, you avoid the hassle of the rehab process. You don’t need to deal with contractors. You receive your profit far more quickly. You don’t need to worry about property values decreasing during the rehab process.
Despite these advantages, wholesaling is not easy. Successful wholesalers need to work extremely hard finding, vetting, and closing deals. And, because they receive smaller returns than other investors, wholesalers need to complete far more deals every year. Furthermore, wholesalers need to find even better deals than fix & flip investors, as a wholesaler’s deal needs to account for both profit margins.
All of this means that to actually do well as a wholesaler, you need to spend a ton of time researching potential deals. You will not find quality deals listed on the MLS—too much competition exists, and most of these properties sell at retail. Instead, wholesalers need to find off-market properties. These properties have less competition and typically offer far greater discounts. But, if you can build your marketing strategy to find and close these sorts of deals, you can thrive as a wholesaler.