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Real estate owned or REO is a term used in the United States to describe a class of property owned by a lender—typically a bank, government agency, or government loan insurer—after an unsuccessful sale at a foreclosure auction. A foreclosing beneficiary will typically set the opening bid at a foreclosure auction for at least the outstanding loan amount. If there are no bidders that are interested, then the beneficiary will legally repossess the property. This is commonly the case when the amount owed on the home is higher than the current market value of this foreclosure property, such as with a high loan-to-value mortgage following a real estate bubble. As soon as the beneficiary repossesses the property it is listed on their books as REO and categorized as an asset (non-performing asset).
The term REO originates from the term other real estate owned (OREO), which is used on financial statements to classify real estate property owned by a financial institution but which is not directly related to its business. The important distinction underlying OREO is between lenders versus companies for which real estate management is their primary business. Lenders are primarily in the business of making loans with the intent that nearly all of those loans will be repaid in full with interest. Seizing, managing and reselling real property collateral to recover unpaid loan balances is secondary to lenders' primary line of business.
In balance sheet terms, OREO assets are considered non-earning assets for purposes of regulatory accounting. In the context of national banks in the U.S., the term OREO is legally defined by the Office of the Comptroller of the Currency in regulations promulgated pursuant to 12 U.S.C. § 29.
As soon as a property goes into a distressed status (the borrower/home owner misses mortgage payments) the beneficiary will want to determine the amount of equity that the property has. A popular method to determine the equity is to obtain a Broker's Price Opinion (BPO) or order an appraisal. Based on the amount of equity that is determined from the BPO, the bank will decide whether to allow a short sale (if requested by the homeowner). If no short sale is requested by the home owner, the beneficiary will continue the foreclosure process. If the beneficiary is unable to sell the property through a short sale or at a foreclosure auction it will now become an REO property.
After a repossession from which the property becomes classified as REO, the beneficiary will go through the process of trying to sell the property on its own or obtain the service of an REO Asset Manager. The beneficiary will remove the liens and other debts on the home and try to resell it to the public, either through future auctions, direct marketing through a real estate broker, or by itself. The asset manager may also try to contact REO realtors that specialize in certain ZIP codes to help sell this bank owned property. Real estate investors will often purchase these properties because of discounts offered to compensate for the condition of the property.
Many larger banks and government institutions have REO/asset management departments that field bids and offers, oversee up keep, and handle sales. Some REO properties on the open market will be listed in MLS by the broker who performed the BPO. In the contraction that resulted from the S&L crisis, a common problem in many areas involved the listing broker "pocket listing" the transaction and not putting it out on the open market. Agents who have a pocket listing will put the listing on the MLS but will sometimes not field legitimate offers in the hopes of selling it themselves, quite often contrary to the beneficiaries wishes. To combat this, REO exchanges and government foreclosure outlets have been developed to overcome this problem.
Bank REO properties are generally in poor condition and need repairs and maintenance, both to satisfy property upkeep laws and to preserve and prepare the property for sale. Maintenance is generally the responsibility of the mortgage servicer and is often in turn provided by a specialized property preservation company. These property preservation services include: securing a property (changing locks, boarding up), debris removal, property maintenance (winterizing, cutting grass, repairing or tarping roof leaks), and rehabilitation.
In addition to preventing damage to the property, securing a property is used to prevent or discourage re-entry by former occupants or by squatters, which can both damage the property and require legal proceedings to remove, further complicating a sale. Swimming pools must also be secured to prevent deaths or injuries from drowning and falls.
Bulk REO or bulk real estate owned, from a real estate investor’s point of view, is like investing on wholesale real estate properties. On the other hand, banks or lenders sell or open their assets in group for auction at a very low price compared to their market value. One benefit of investing on REO's in bulk is that a buyer can get good discounts upon purchasing them. However, the downside would be the incurred expenses from the closing amounts of the properties that the investor needs to pay.
For instance, a real estate investor purchased four REOs for $600,000 by borrowing an amount of $500,000 and paying $100,000 as down payment. Each property costs $150,000 and the down payment is allocated equally among them at $25,000. The remaining balance for each property will then be $125,000 which is financed through blanket loan for $500,000. Each property will still have a release clause of $125,000 so that it can still be sold separately without affecting the blanket loan. Thus, in case one has sold a property for $300,000, one only needs to pay off the release amount of $125,000 taking home the profit of $175,000.
Most bulk REOs have these common characteristics:
Typically, bulk REOs are found in low to non-residential areas with low to moderate income residents. Most are abandoned, have no appeal and only incur cost to the lender or bank. Generally, these properties sell for 40 to 60 percent lower than the actual market value.